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EX-4.1 - AMENDED NON-NEGOTIABLE PROMISSORY NOTE - Lifeway Foods, Inc.exh4-1_16885.htm
EX-32.1 - 906 CERTIFICATION OF THE C.E.O. - Lifeway Foods, Inc.exh32-1_16885.htm
EX-99.1 - PRESS RELEASE DATED AUGUST 16, 2010 - Lifeway Foods, Inc.exh99-1_16885.htm
EX-32.2 - 906 CERTIFICATION OF THE C.F.O. - Lifeway Foods, Inc.exh32-2_16885.htm
EX-31.1 - 302 CERTIFICATION OF THE C.E.O. - Lifeway Foods, Inc.exh31-1_16885.htm
EX-31.2 - 302 CERTIFICATION OF THE C.F.O. - Lifeway Foods, Inc.exh31-2_16885.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:  June 30, 2010
 
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) filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 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  o   No  x
 
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  o   No  o
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer or a smaller reporting company. See definition 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 June 30, 2010, the issuer had 16,657,478 shares of common stock, no par value, outstanding.
 


 
 
 
 
LIFEWAY FOODS, INC.
CONTENTS TO FORM 10-Q
 
 
PART I —
FINANCIAL INFORMATION
 
Page(s)
       
ITEM 1.
FINANCIAL STATEMENTS.
  3
       
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.
  8
       
ITEM 2.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
  21
       
ITEM 3.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
  24
       
   ITEM 4T.
CONTROLS AND PROCEDURES.
  24
       
       
       
PART II —
OTHER INFORMATION
  24
       
ITEM 1.
LEGAL PROCEEDINGS.
  24
       
    ITEM 1A.
RISK FACTORS.
  24
       
ITEM 2.
UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS.
  24
       
ITEM 3.
DEFAULTS UPON SENIOR SECURITIES.
  25
       
ITEM 4.
REMOVED AND RESERVED.
  25
       
ITEM 5.
OTHER INFORMATION.
  25
       
ITEM 6.
EXHIBITS.
  26
       
       
       
SIGNATURES
    27
       
EXHIBIT INDEX
    28
 

 
- 2 -

 
 



 


 
LIFEWAY FOODS, INC. AND SUBSIDIARIES

 CONSOLIDATED FINANCIAL STATEMENTS

JUNE 30, 2010 AND 2009
AND DECEMBER 31, 2009












 
- 3 -

 
PART I — FINANCIAL INFORMATION
 
ITEM 1. FINANCIAL STATEMENTS.
 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Consolidated Statements of Financial Condition
June 30, 2010 and 2009 (Unaudited) and December 31, 2009
 
   
(Unaudited)
       
   
June 30,
   
December 31,
 
   
2010
   
2009
   
2009
 
ASSETS
                 
                   
Current assets
                 
Cash and cash equivalents
  $ 858,490     $ 582,766     $ 630,407  
Investments
    3,411,804       4,659,161       4,392,125  
Certificates of deposits in financial institutions
    550,000             652,005  
Inventories
    4,154,719       3,817,195       3,296,976  
Accounts receivable, net of allowance for doubtful accounts and discounts
    7,780,512       6,064,801       5,999,738  
Prepaid expenses and other current assets
    70,130       55,669       40,697  
Other receivables
    142,389       65,730       49,758  
Deferred income taxes
    389,249       638,372       251,456  
Refundable income taxes
          778,125       1,308,978  
Total current assets
    17,357,293       16,661,819       16,622,140  
                         
Property and equipment, net
    14,890,327       13,793,929       14,282,182  
                         
Intangible assets
                       
Goodwill and other non amortizable brand asset
    13,806,091       13,806,091       13,806,091  
Other intangible assets, net of accumulated amortization of $1,949,729 and $1,260,809 at June 30, 2010 and 2009 and $1,598,208 at December 31, 2009
    5,907,909       6,596,829       6,259,430  
Total intangible assets
    19,714,000       20,402,920       20,065,521  
                         
Other assets
    500,000       500,000       500,000  
                         
Total assets
  $ 52,461,620     $ 51,358,668     $ 51,469,843  
                         
LIABILITIES AND STOCKHOLDERS' EQUITY
                       
                         
Current liabilities
                       
Checks written in excess of bank balances
  $ 847,374     $     $ 342,976  
Current maturities of notes payable
    4,431,873       6,219,788       4,842,315  
Accounts payable
    2,259,236       2,024,313       2,764,000  
Accrued expenses
    531,553       617,662       614,344  
Accrued income tax
    604,323              
Total current liabilities
    8,674,359       8,861,763       8,563,635  
                         
Notes payable
    6,397,780       7,907,847       6,890,214  
                         
Deferred income taxes
    3,262,795       3,593,740       3,444,664  
Total liabilities
    18,334,934       20,363,350       18,898,513  
                         
Stockholders' equity
                       
Common stock, no par value; 20,000,000 shares authorized; 17,273,776 shares issued;16,657,478 shares outstanding at June 30, 2010; 17,273,776 shares issued: 16,812,955 shares outstanding at June 30, 2009; 17,273,776 shares issued; 16,778,555 shares outstanding at December 31, 2009
    6,509,267       6,509,267       6,509,267  
Paid-in-capital
    2,018,727       1,912,845       1,965,786  
Treasury stock, at cost
    ( 5,256,054 )     ( 3,353,490 )     ( 3,846,773 )
Retained earnings
    30,906,602       26,463,077       27,953,409  
Accumulated other comprehensive loss, net of taxes
    ( 51,856 )     ( 536,381 )     ( 10,359 )
Total stockholders' equity
    34,126,686       30,995,318       32,571,330  
                         
Total liabilities and stockholders' equity
  $ 52,461,620     $ 51,358,668     $ 51,469,843  

 
- 4 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Consolidated Statements of Income and Comprehensive Income
For the Three and Six Months Ended June 30, 2010 and 2009 (Unaudited)
and for the Year Ended December 31, 2009
 
   
(Unaudited)
   
(Unaudited)
       
   
Three Months Ended
   
Six Months Ended
   
Year Ended
 
   
June 30,
   
June 30,
   
December 31,
 
   
2010
   
2009
   
2010
   
2009
   
2009
 
                               
Sales
    15,546,556       14,479,429       31,510,715       28,215,509       58,115,878  
                                         
Cost of goods sold
    9,273,872       7,978,110       17,892,871       16,102,691       36,083,553  
Depreciation expense
    281,220       353,654       684,595       570,428       1,134,404  
                                         
Total cost of goods sold
    9,555,092       8,331,764       18,577,466       16,673,119       37,217,957  
                                         
Gross profit
    5,991,464       6,147,665       12,933,249       11,542,390       20,897,921  
                                         
Selling expenses
    2,183,304       1,386,815       4,710,777       2,694,740       5,987,917  
General and administrative
    1,478,062       1,437,505       2,968,219       2,810,103       5,294,550  
Amortization expense
    175,761       168,698       351,521       339,388       676,786  
                                         
Total Operating Expenses
    3,837,127       2,993,018       8,030,517       5,844,231       11,959,253  
                                         
Income from operations
    2,154,337       3,154,647       4,902,732       5,698,159       8,938,668  
                                         
Other income (expense):
                                       
Interest and dividend income
    53,176       48,506       107,684       110,717       199,047  
Rental Income
    2,800       11,947       4,035       21,294       35,240  
Interest expense
    ( 80,164 )     ( 110,090 )     ( 176,106 )     ( 264,473 )     ( 442,703 )
Loss on Disposition of Equipment
          ( 2,825 )           ( 2,825 )     ( 2,826 )
Gain (loss) on sale of marketable securities, net
    84,043       53,638       54,784       ( 96,152 )     ( 278,474 )
Total other income (expense)
    59,855       1,176       ( 9,603 )     ( 231,439 )     ( 489,716 )
                                         
Income before provision for income taxes
    2,214,192       3,155,823       4,893,129       5,466,720       8,448,952  
                                         
Provision for income taxes
    1,029,688       623,918       1,939,936       1,387,350       2,879,250  
                                         
Net income
  $ 1,184,504     $ 2,531,905     $ 2,953,193     $ 4,079,370     $ 5,569,702  
                                         
Basic and diluted earnings per common share
    0.07       0.15       0.18       0.24       0.33  
                                         
Weighted average number of shares outstanding
    16,701,539       16,823,691       16,731,549       16,823,691       16,798,164  
                                         
COMPREHENSIVE INCOME
                                       
                                         
Net income
  $ 1,184,504     $ 2,531,905     $ 2,953,193     $ 4,079,370     $ 5,569,702  
                                         
Other comprehensive income (loss), net of tax:
                                       
Unrealized gains (losses) on investments (net of tax)
    ( 55,842 )     338,409       ( 9,339 )     ( 93,913 )     325,086  
Less reclassification adjustment for (gains) losses included in net income (net of taxes)
    (49,333 )     (31,486 )     (32,158 )     56,441       163,464  
                                         
Comprehensive income
  $ 1,079,329     $ 2,838,828     $ 2,911,696     $ 4,041,898     $ 6,058,252  
 
 
- 5 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Consolidated Statements of Changes in Stockholders' Equity
For the Six Months Ended June 30, 2010 and 2009 (Unaudited)
and for the Year Ended December 31, 2009
 
   
Common Stock, No Par Value
20,000,000 Shares
   
# of Shares
                           
Accumulated
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, 2008
    17,273,776       16,724,467       549,309     $ 6,509,267     $ 1,202,009     $ (3,302,025 )   $ 22,383,707     $ (498,909 )   $ 26,294,049  
                                                                         
Redemption of stock
          ( 87,991 )     87,991                   ( 905,607 )                 ( 905,607 )
                                                                         
Issuance of treasury stock for compensation
          13,132       ( 13,132 )           119,039       25,597                   144,636  
                                                                         
Issuance of treasury stock for Fresh Made acquisition
          128,947       ( 128,947 )           644,738       335,262                   980,000  
                                                                         
Other comprehensive income (loss):
                                                                       
Unrealized gains on securities, net of taxes and reclassification adjustment
                                              488,550       488,550  
                                                                         
Net income for the year ended
December 31, 2009
                                        5,569,702             5,569,702  
                                                                         
Balances at December 31, 2009
    17,273,776       16,778,555       495,221     $ 6,509,267     $ 1,965,786     $ (3,846,773 )   $ 27,953,409     $ (10,359 )   $ 32,571,330  
                                                                         
                                                                         
Balances at January 1, 2009
    17,273,776       16,724,467       549,309     $ 6,509,267     $ 1,202,009     $ (3,302,025 )   $ 22,383,707     $ (498,909 )   $ 26,294,049  
                                                                         
Redemption of stock
          ( 48,341 )     48,341                   ( 402,947 )                 ( 402,947 )
                                                                         
Issuance of treasury stock for compensation
          7,882       ( 7,882 )           66,098       16,220                   82,318  
                                                                         
Issuance of treasury stock for Fresh Made acquisition
          128,947       ( 128,947 )           644,738       335,262                   980,000  
                                                                         
Other comprehensive income (loss):
                                                                       
Unrealized gains on securities, net of taxes and reclassification adjustment
                                              ( 37,472 )     (37,472 )
                                                                         
Net income for the six months ended June 30, 2009
                                        4,079,370             4,079,370  
                                                                         
Balances at June 30, 2009
    17,273,776       16,812,955       460,821     $ 6,509,267     $ 1,912,845     $ (3,353,490 )   $ 26,463,077     $ (536,381 )   $ 30,995,318  
                                                                         
                                                                         
Balances at January 1, 2010
    17,273,776       16,778,555       495,221     $ 6,509,267     $ 1,965,786     $ (3,846,773 )   $ 27,953,409     $ (10,359 )   $ 32,571,330  
                                                                         
Redemption of stock
          ( 129,841 )     129,841                   ( 1,418,657 )                 ( 1,418,657 )
                                                                         
Issuance of treasury stock for compensation
          8,764       ( 8,764 )           52,941       9,376                   62,317  
                                                                         
Other comprehensive income (loss):
                                                                       
Unrealized gains on securities, net of taxes and reclassification adjustment
                                              ( 41,497 )     ( 41,497 )
                                                                         
                                                                   
Net income for the six months ended June 30, 2010
                                        2,953,193             2,953,193  
                                                                         
Balances at June 30, 2010
    17,273,776       16,657,478       616,298     $ 6,509,267     $ 2,018,727     $ (5,256,054 )   $ 30,906,602     $ (51,856 )   $ 34,126,686  

 
- 6 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows
For the Six Months Ended June 30, 2010 and 2009 (Unaudited)
and for the Year Ended December 31, 2009
 
   
(Unaudited)
       
   
June 30,
   
December 31,
 
   
2010
   
2009
   
2009
 
                   
Cash flows from operating activities:
                 
Net income
  $ 2,953,193     $ 4,079,370     $ 5,569,702  
Adjustments to reconcile net income to net cash flows from operating activities, net of acquisition:
                       
Depreciation and amortization
    1,036,116       909,816       1,811,190  
(Gain) Loss on sale of investments, net
    ( 54,784 )     96,152       278,474  
Loss on disposition of assets
          2,825       2,826  
Deferred income taxes
    ( 290,465 )     179,796       389,754  
Treasury stock issued for compensation
    62,317       82,318       144,636  
Decrease in allowance for doubtful accounts
                ( 75,000 )
(Increase) decrease in operating assets:
                       
Accounts receivable
    ( 1,780,774 )     ( 752,978 )     ( 612,915 )
Other receivables
    ( 92,631 )     ( 25,416 )     ( 7,758 )
Inventories
    ( 857,743 )     ( 346,800 )     173,419  
Refundable income taxes
    1,308,978       ( 435,205 )     ( 475,635 )
Prepaid expenses and other current assets
    ( 29,433 )     5,029       9,506  
Increase (decrease) in operating liabilities:
                       
Accounts payable
    ( 504,764 )     ( 440,911 )     298,800  
Accrued expenses
    ( 82,791 )     36,719       96,062  
Accrued income taxes
    604,323              
Net cash provided by operating activities
    2,271,542       3,390,715       7,603,061  
                         
Cash flows from investing activities:
                       
Purchases of investments
    ( 538,852 )     ( 3,342,662 )     ( 6,156,682 )
Proceeds from sale of investments
    1,502,724       4,127,666       6,928,321  
Proceeds from redemption of certificates of deposit
    102,545              
Purchases of property and equipment
    ( 1,292,741 )     ( 714,052 )     ( 1,766,280 )
Acquisition of Fresh Made, net of cash acquired
          ( 10,498,224 )     ( 11,042,546 )
Net cash used in investing activities
    ( 226,324 )     ( 10,427,272 )     ( 12,037,187 )
                         
Cash flows from financing activities:
                       
Proceeds of note payable
    250,000       9,342,085       9,353,504  
Checks written in excess of bank balances
    504,398             342,976  
Purchases of treasury stock
    ( 1,418,657 )     ( 402,947 )     ( 905,607 )
Repayment of notes payable
    ( 1,152,876 )     ( 1,597,063 )     ( 4,003,588 )
Net cash (used in) provided by in financing activities
    ( 1,817,135 )     7,342,075       4,787,285  
                         
Net increase in cash and cash equivalents
    228,083       305,518       353,159  
                         
Cash and cash equivalents at the beginning of the period
    630,407       277,248       277,248  
                         
Cash and cash equivalents at the end of the period
  $ 858,490     $ 582,766     $ 630,407  

 
- 7 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2010 and 2009
and December 31, 2009


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.


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 consolidated 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 generally 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, LFI Enterprises, Inc., 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.  The financial statements include the results of operations from Fresh Made, Inc from February 6, 2009 through the end of the period (see Note 3).

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 and discounts, 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.
 
- 8 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2010 and 2009
and December 31, 2009


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.

Accounts receivable are recorded at invoice amounts, and reduced to their estimated net realizable value by recognition of an allowance for doubtful accounts and net of anticipated discounts.  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 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
 
 
- 9 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2010 and 2009
and December 31, 2009


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, 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 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
 
7-10
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 investments, capitalization of indirect costs for tax purposes, purchase price adjustments, and the recognition of an allowance for doubtful accounts for financial statement purposes.
 
- 10 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2010 and 2009
and December 31, 2009


Note 2 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES – Continued
 
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 2006 through 2009 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.
 
Subsequent to June 30, 2010, the IRS completed a review of the Company’s 2007 and 2008 federal tax return filings, resulting in a liability of approximately $220,000 being recognized as of June 30, 2010.  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.

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, 2009 and for the six months ended June 30, 2010 and 2009, approximately $1,689,540, $2,272,520 and $780,116 of such costs respectively, were expensed.

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 six months ended June 30, 2010 and 2009 and for the year ended December 31, 2009, diluted and basic earnings per share were the same, as the effect of dilutive securities options outstanding was not significant.

Reclassification
Certain 2009 balance sheet amounts have been reclassified to conform to the 2010 presentation.

Note 3 – ACQUISITION

On February 6, 2009, we completed a Stock Purchase Agreement (the “Stock Agreement”) under which Lifeway purchased all of the issued and outstanding stock (the “Shares”) of Fresh Made, Inc., a Pennsylvania corporation (“Fresh”).  The consideration for the Shares was an aggregate of $8,048,000 in cash, a note in the principal amount of $2,735,000, due on August 1, 2010 as amended and restated, 128,948 shares of common stock of Lifeway valued at a total of $980,000 (“Lifeway’s Common Stock”), the cancellation of a loan in the principal amount of $265,000.  The issuance of Lifeway’s Common Stock was exempted from registration pursuant to Section 4(2) of the Securities Act of 1933, as amended.

Also on February 6, 2009, we entered into and consummated a Real Property Purchase Agreement (the “Real Property Agreement”) under which we acquired 1.1355 acres of land in Philadelphia, PA (the “Property”).  The consideration for the Property was approximately $2,000,000.

The acquisition was consummated to expand the geographic footprint of Lifeway as well as grow market share.  The acquisition was accounted for using the purchase accounting method of accounting, and accordingly, the purchase price was allocated to assets acquired and the liabilities assumed based on the
 
- 11 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2010 and 2009
and December 31, 2009

 
Note 3 – ACQUISITION - Continued

fair value as of the merger date.  Acquisition costs for legal and professional fees have been included in General and Administrative costs.  None of the goodwill resulting from the acquisition is tax deductible.

The estimated fair value of assets acquired, including the real property, and liabilities assumed consisted of the following:

Cash and cash equivalents
  $ 226,000  
Accounts receivable (contractual amounts totaling $545,958)
    546,000  
Other current assets
    361,000  
Building and other fixed assets
    2,617,000  
Customer list
    4,000,000  
Non amortizable goodwill and brand asset
    8,391,000  
Current liabilities
    ( 461,000 )
Deferred tax liability associated with purchase adjustments
    ( 1,652,000 )
       Total fair value of assets acquired and liabilities assumed
  $ 14,028,000  


The following pro forma disclosures, including the effect of purchase accounting adjustments, depict the results of operations for the six months ended June 30, 2009 and the year ended December 31, 2009 as though the merger with Fresh had taken place as of January 1, 2009:
 
   
For the Six Months Ended
June 30, 2009
   
For the Year Ended
December 31, 2009
 
Gross revenue
  $ 29,331,092     $ 59,231,461  
                 
Net income
  $ 4,128,139     $ 5,618,471  
                 
Earnings per share
  $ 0.25     $ 0.33  

Note 4 – INTANGIBLE ASSETS
 
Intangible assets, and the related accumulated amortization, consist of the following:

   
June 30, 2010
   
June 30, 2009
   
December 31, 2009
 
   
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
    4,305,200       803,744       4,305,200       385,166       4,305,200       587,393  
Lease acquisition
    87,200       73,707       87,200       61,245       87,200       67,473  
Other
    6,638       6,638       6,638       6,638       6,638       6,638  
Customer relationship
    985,000       321,490       985,000       239,410       985,000       280,454  
Contractual backlog
    12,000       12,000       12,000       12,000       12,000       12,000  
Trade names
    1,980,000       517,000       1,980,000       385,000       1,980,000       451,000  
Formula
    438,000       171,550       438,000       127,750       438,000       149,650  
    $ 7,857,638     $ 1,949,729     $ 7,857,638     $ 1,260,809     $ 7,857,638     $ 1,598,208  
 
 
- 12 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2010 and 2009
and December 31, 2009
 
 
Note 4 – INTANGIBLE ASSETS - Continued

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

2011
  $
703,040
 
2012
   
690,583
 
2013
   
690,583
 
                         2014
   
676,958
 
2015
   
657,883
 
Thereafter
   
2,488,862
 
    $
5,907,909
 

Amortization expense during the six months ended June 30, 2010 and 2009 and for the year ended December 31, 2009 was $351,521, $339,388 and $676,786, respectively.
 
Note 5 – INVESTMENTS

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

June 30, 2010
 
Cost
   
Unrealized
Gains
   
Unrealized
Losses
   
Fair
Value
 
                         
Equities
  $ 653,068     $ 26,400     $ ( 117,892 )   $ 561,576  
Mutual Funds
    206,961       3,056       ( 7,853 )     202,164  
Preferred Securities
    272,629       6,650       ( 64,789 )     214,490  
Corporate Bonds
    1,751,719       89,355       ( 30,140 )     1,810,934  
Government Agency Obligations
    615,767       8,625       ( 1,752 )     622,640  
Total
  $ 3,500,144     $ 134,086     $ ( 222,426 )   $ 3,411,804  


June 30, 2009
 
Cost
   
Unrealized
Gains
   
Unrealized
Losses
   
Fair
Value
 
                         
Equities
  $ 1,536,976     $ 57,665     $ ( 178,926 )   $ 1,415,715  
Mutual Funds
    617,082       842       ( 267,818 )     350,106  
Preferred Securities
    680,527       14,361       ( 207,218 )     487,670  
Corporate Bonds
    506,165       5,836       ( 7,781 )     504,220  
Government Agency Obligations
    1,889,963       15,201       ( 3,714 )     1,901,450  
Total
  $ 5,230,713     $ 93,905     $ ( 665,457 )   $ 4,659,161  
 
 
- 13 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2010 and 2009
and December 31, 2009

 
Note 5 – INVESTMENTS - Continued
 
December 31, 2009
 
Cost
   
Unrealized
Gains
   
Unrealized
Losses
   
Fair
Value
 
                         
Equities
  $ 1,385,524     $ 177,024     $ (128,547 )   $ 1,434,001  
Mutual Funds
    172,543       7,453       ( 22,833 )     157,163  
Preferred Securities
    388,705       6,700       ( 95,753 )     299,652  
Corporate Bonds
    1,569,245       65,226       ( 6,772 )     1,627,699  
Government Agency Obligations
    893,755       2,989       ( 23,134 )     873,610  
Total
  $ 4,409,772     $ 259,392     $ (277,039 )   $ 4,392,125  

Proceeds from the sale of investments were $6,928,321, $1,605,269 and $4,127,666 during the year ended December 31, 2009 and for the six months ended June 30, 2010 and 2009, respectively.

Gross gains of $351,419, $120,850 and $235,408 and gross losses of $629,893, $66,066 and $331,562 were realized on these sales during the year ended December 31, 2009 and for the six months ended June 30, 2010 and 2009, 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 June 30, 2010 and 2009 and at December 31, 2009:

   
Less Than 12 Months
   
12 Months or Greater
   
Total
 
June 30, 2010
 
Fair Value
   
Unrealized Losses
   
Fair Value
   
Unrealized Losses
   
Fair Value
   
Unrealized Losses
 
                                     
Equities
  $ 58,222     $ ( 10,953 )   $ 154,154     $ (106,939 )   $ 212,376     $ ( 117,892 )
Mutual Funds
    278       ( 4 )     99,486       ( 7,849 )     99,764       ( 7,853 )
Preferred Securities
                193,090       ( 64,789 )     193,090       ( 64,789 )
Corporate Bonds
    499,285       ( 26,989 )     181,076       ( 3,151 )     680,361       ( 30,140 )
Government Agency Obligations
                84,775       ( 1,752 )     84,775       ( 1,752 )
    $ 557,785     $ ( 37,946 )   $ 712,581     $ (184,480 )   $ 1,270,366     $ (222,426 )
 
 
- 14 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2010 and 2009
and December 31, 2009

 
Note 5 – INVESTMENTS - Continued
 
   
Less Than 12 Months
   
12 Months or Greater
   
Total
 
June 30, 2009
 
Fair Value
   
Unrealized Losses
   
Fair Value
   
Unrealized Losses
   
Fair Value
   
Unrealized Losses
 
                                     
Equities
  $ 537,047     $ ( 113,772 )   $ 270,700     $ ( 65,154 )   $ 807,747     $ ( 178,926 )
Mutual Funds
    95,391       ( 33,238 )     248,327       (234,580 )     343,718       ( 267,818 )
Preferred Securities
    21,527       ( 3,368 )     365,740       (203,850 )     387,267       ( 207,218 )
Corporate Bonds
                212,531       ( 7,781 )     212,531       ( 7,781 )
Government Agency Obligations
                202,046       ( 3,714 )     202,046       ( 3,714 )
    $ 653,965     $ ( 150,378 )   $ 1,299,344     $ (515,079 )   $ 1,953,309     $ ( 665,457 )
 

 
   
Less Than 12 Months
   
12 Months or Greater
   
Total
 
December 31, 2009
 
Fair Value
   
Unrealized Losses
   
Fair Value
   
Unrealized Losses
   
Fair Value
   
Unrealized Losses
 
                                     
Equities
  $ 128,959     $ ( 27,142 )   $ 230,502     $ ( 101,405 )   $ 359,461     $ ( 128,547 )
Mutual Funds
    1,694       ( 321 )     131,870       ( 22,512 )     133,564       ( 22,833 )
Preferred Securities
                278,202       ( 95,753 )     278,202       ( 95,753 )
Corporate Bonds
    178,874       ( 3,176 )     124,395       ( 3,596 )     303,269       ( 6,772 )
Government Agency Obligations
    564,941       ( 20,096 )     161,466       ( 3,038 )     726,407       ( 23,134 )
    $ 874,468     $ ( 50,735 )   $ 926,435     $ ( 226,304 )   $ 1,800,903     $ ( 277,039 )


Equities, Mutual Funds, Corporate Bonds and Government Agency Obligations - The Company's investments in equity securities, mutual funds, corporate bonds and government agency obligations consist of investments in common stock, preferred 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, 2010.

Preferred Securities - The Company's investments in preferred securities consist of investments in preferred stock of companies in various industries.  The Company evaluated the continuing performance of the securities, the credit worthiness of the issuers as well as 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, 2010.
 
- 15 -

 
 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2010 and 2009
and December 31, 2009

 
Note 6 – INVENTORIES

Inventories consist of the following:

   
June 30,
   
December 31,
 
   
2010
   
2009
   
2009