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EX-31.2 - 302 CERTIFICATION OF THE C.F.O. - Lifeway Foods, Inc.exh31-2_17856.htm
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EX-32.1 - 906 CERTIFICATION OF THE C.E.O. - Lifeway Foods, Inc.exh32-1_17856.htm
EX-31.1 - 302 CERTIFICATION OF THE C.E.O. - Lifeway Foods, Inc.exh31-1_17856.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, 2015
 
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  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  x
 
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 x
Non-accelerated filer  o
Smaller reporting company o
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).   Yes  o   No  x
 
As of September 24, 2015, 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.
18
Item 3.
Quantitative and Qualitative Disclosures About Market Risk.
23
Item 4.
Controls and Procedures.
24
 
 
PART II – OTHER INFORMATION
 
Item 1.
Legal Proceedings.
25
Item 1 A.
Risk Factors.
25
Item 2.
Unregistered Sales of Equity Securities and Use of Proceeds.
25
Item 3.
Defaults Upon Senior Securities.
25
Item 4.
Mine Safety Disclosure.
25
Item 5.
Other Information.
25
Item 6.
Exhibits.
25
 
Signatures.
26
 
Index of Exhibits.
27
 
 
 
 
 
- 2 -

 
ITEM 1.  FINANCIAL STATEMENTS.

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Consolidated Statements of Financial Condition
June 30, 2015 and December 31, 2014

 
 
   
June 30,
2015
   
December 31,
2014
 
   
(Unaudited)
       
ASSETS
           
             
Current assets
           
Cash and cash equivalents
 
$
5,873,079
   
$
3,260,244
 
Investments, at fair value
   
2,849,752
     
2,779,140
 
Certificates of deposits in financial institutions
   
434,981
     
149,965
 
Inventories
   
6,289,816
     
5,814,219
 
Accounts receivable, net of allowance for doubtful
               
accounts and discounts of $2,100,000 and $1,050,000
at June 30, 2015 and  December 31, 2014, respectively
   
10,349,813
     
10,213,541
 
Prepaid expenses and other current assets
   
113,751
     
251,922
 
Other receivables
   
28,794
     
134,338
 
Deferred income taxes
   
451,198
     
408,340
 
Refundable income taxes
   
741,302
     
1,140,796
 
Total current assets
   
27,132,486
     
24,152,505
 
                 
Property and equipment, net
   
21,974,931
     
21,892,395
 
                 
Intangible assets
               
Goodwill
   
14,068,091
     
14,068,091
 
Other intangible assets, net
   
2,701,925
     
3,059,764
 
Total intangible assets
   
16,770,016
     
17,127,855
 
                 
Other Assets
               
Long-term accounts receivable, net of current portion
   
267,458
     
251,683
 
                 
Total assets
 
$
66,144,891
   
$
63,424,438
 
                 
                 
LIABILITIES AND STOCKHOLDERS’ EQUITY
               
                 
Current liabilities
               
Current maturities of notes payable
 
$
840,000
   
$
872,285
 
Accounts payable
   
5,725,222
     
5,586,755
 
Accrued expenses
   
4,702,762
     
2,066,076
 
Accrued income taxes
   
14,600
     
 
Total current liabilities
   
11,282,584
     
8,525,116
 
                 
Notes payable
   
7,539,328
     
8,124,515
 
                 
Deferred income taxes
   
1,812,296
     
2,075,095
 
Total liabilities
   
20,634,208
     
18,724,726
 
                 
Stockholders’ equity
               
Common stock, no par value; 40,000,000 shares authorized;
               
17,273,776 shares issued; 16,346,017 shares outstanding
               
at June 30, 2015 and December 31, 2014
   
6,509,267
     
6,509,267
 
Paid-in-capital
   
2,032,516
     
2,032,516
 
Treasury stock, at cost
   
( 8,187,682
)
   
( 8,187,682
)
Retained earnings
   
45,296,249
     
44,543,618
 
Accumulated other comprehensive loss, net of taxes
   
( 139,667
)
   
( 198,007
)
Total stockholders’ equity
   
45,510,683
     
44,699,712
 
                 
Total liabilities and stockholders’ equity
 
$
66,144,891
   
$
63,424,438
 

 
See accompanying notes to consolidated financial statements
 
 
- 3 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Consolidated Statements of Income and Comprehensive Income
For the Three Months and Six Months Ended June 30, 2015 and 2014
(Unaudited)
 
 
   
Three Months Ended June 30,
   
Six Months Ended June 30,
 
   
2015
   
2014
     
2015
     
2014
 
Gross sales
 
$
36,291,842
   
$
32,594,048
   
$
69,394,925
   
$
64,655,195
 
Less: discounts and promotional allowances
   
(6,470,654
)
   
(3,028,637
)
   
(9,951,613
)
   
(5,958,073
)
Net sales
   
29,821,188
     
29,565,411
     
59,443,312
     
58,697,122
 
                                 
Cost of goods sold
   
22,201,129
     
21,432,624
     
42,849,096
     
43,114,535
 
Depreciation expense
   
604,531
     
627,878
     
1,195,158
     
1,411,238
 
                                 
Total cost of goods sold
   
22,805,660
     
22,060,502
     
44,044,254
     
44,525,773
 
                                 
Gross profit
   
7,015,528
     
7,504,909
     
15,399,058
     
14,171,349
 
                                 
Selling expenses
   
2,617,399
     
3,693,821
     
6,779,802
     
7,173,509
 
General and administrative
   
4,170,155
     
2,107,197
     
6,802,051
     
4,487,827
 
Amortization expense
   
178,920
     
178,919
     
357,839
     
357,839
 
                                 
Total operating expenses
   
6,966,474
     
5,979,937
     
13,939,692
     
12,019,175
 
                                 
Income from operations
   
49,054
     
1,524,972
     
1,459,366
     
2,152,174
 
                                 
Other income (expense):
                               
Interest and dividend income
   
35,739
     
35,227
     
61,218
     
63,925
 
Rental income
   
1,800
     
1,200
     
3,600
     
1,700
 
Interest expense
   
(58,429
)
   
(66,724
)
   
(123,770
)
   
(132,293
)
(Loss)/Gain on sale of investments, net
                               
reclassified from OCI
   
(16,844
)
   
57,321
     
(21,937
)
   
62,130
 
Gain on sale of property and equipment
   
207,083
     
(76,484
)
   
243,083
     
(76,484
)
Other income (expense), net
   
136
     
1,672
     
(98,796)
     
1,672
 
Total other income (expense)
   
169,485
     
(47,788
)
   
63,398
     
(79,350
)
                                 
Income before provision for
                               
   income taxes
   
218,539
     
1,477,184
     
1,522,764
     
2,072,824
 
                                 
Provision for income taxes
   
119,626
     
807,768
     
770,133
     
1,106,229
 
                                 
Net income
 
$
98,913
   
$
669,416
   
$
752,631
   
$
966,595
 
                                 
Basic and diluted earnings
                               
   per common share
 
$
0.01
   
$
0.04
   
$
0.05
   
$
0.06
 
                                 
Weighted average number of
                               
   common shares outstanding
   
16,346,017
     
16,346,017
     
16,346,017
     
16,346,017
 
                                 
COMPREHENSIVE INCOME
                               
                                 
Net income
 
$
98,913
   
$
669,416
   
$
752,631
   
$
966,595
 
                                 
Other comprehensive income
                               
(loss), net of tax:
                               
Unrealized gains (losses) on
                               
  investments (net of tax)
   
( 18,215
)
   
63,111
     
(64,475
)
   
71,155
 
Less reclassification adjustment
                               
  for (gains) losses and other than
  temporary impairments included in
                               
  net income (net of taxes)
   
10,435
     
( 34,393
)
   
122,815
     
( 37,110
)
                                 
Comprehensive income
 
$
91,133
   
$
698,134
   
$
810,971
   
$
1,000,640
 
 
 
See accompanying notes to consolidated financial statements
 
 
- 4 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Consolidated Statements of Changes in Stockholders’ Equity
For the Six Months Ended June 30, 2015 and 2014
(Unaudited)
 
 

 
                                 
Accumulated
       
                                 
Other
       
   
Common Stock
               
Comprehensive
       
   
Issued
   
In treasury
   
Paid In
   
Retained
   
Income (Loss),
       
   
Shares
   
$
   
Shares
   
$
   
Capital
   
Earnings
   
Net of Tax
   
Total Equity
 
                                                             
     
 
Balances at December 31, 2013
   
17,273,776
   
$
6,509,267
     
(927,759
)
 
$
(8,187,682
)
 
$
2,032,516
   
$
42,587,214
   
$
7,807
   
$
42,949,122
 
                                             
 
 
Other comprehensive income
   
     
     
     
     
     
     
34,045
     
34,045
 
                                                             
     
 
Net income for the six  months ended June 30, 2014
   
     
     
     
     
     
966,595
     
     
966,595
 
                                                             
     
 
Balances at June 30, 2014
   
17,273,776
   
$
6,509,267
     
(927,759
)
 
$
(8,187,682
)
 
$
2,032,516
   
$
43,553,809
   
$
41,852
   
$
43,949,762
 
                                                             
     
 
Balances at December 31, 2014
   
17,273,776
   
$
6,509,267
     
(927,759
)
 
$
(8,187,682
)
 
$
2,032,516
   
$
44,543,618
   
$
(198,007
)
 
$
44,699,712
 
                                                             
     
 
Other comprehensive income
   
     
     
     
     
     
     
58,340
     
58,340
 
                                                             
     
 
Net income for the six months ended June 30, 2015
   
     
     
     
     
     
752,631
     
     
752,631
 
                                                             
     
 
Balances at June 30, 2015
   
17,273,776
   
$
6,509,267
     
(927,759
)
 
$
(8,187,682
)
 
$
2,032,516
   
$
45,296,249
   
$
(139,667
)
 
$
45,510,683
 


See accompanying notes to consolidated financial statements
 
 
 
 
 
 
 
- 5 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows
For the Six Months Ended June 30, 2015 and 2014
(Unaudited)

   
June 30,
 
   
2015
   
2014
 
             
Cash flows from operating activities:
           
Net income
 
$
752,631
   
$
966,595
 
Adjustments to reconcile net income to net
               
cash flows from operating activities:
               
Depreciation and amortization
   
1,552,997
     
1,769,077
 
Loss (gain) on sale of investments, net
   
21,937
     
(62,130
)
Impairment of investments
   
179,500
     
 
Deferred income taxes
   
(351,818
)
   
(440,285
)
Bad debt expense
   
250
     
156,049
 
Gain on sale of property and equipment
   
(243,083
)
   
76,484
 
(Increase) decrease in operating assets:
               
Accounts receivable
   
(166,829
)
   
728,281
 
Other receivables
   
105,544
     
46,591
 
Inventories
   
(475,597
)
   
88,467
 
Refundable income taxes
   
399,494
     
(562,986
)
Prepaid expenses and other current assets
   
138,171
     
(28,125
)
Increase (decrease) in operating liabilities:
               
Accounts payable
   
138,467
     
(1,972,157
)
Accrued expenses
   
2,636,686
     
1,336,163
 
Accrued income taxes
   
14,600
     
 
Net cash provided by operating activities
   
4,702,950
     
2,102,024
 
                 
Cash flows from investing activities:
               
Purchases of investments
   
(1,286,664
)
   
(1,774,734
)
Proceeds from sale of investments
   
1,133,647
     
1,419,362
 
Redemption of certificates of deposits
   
99,965
     
15,000
 
Investments in certificates of deposits
   
(384,981
)
   
 
Purchases of property and equipment
   
(1,377,390
)
   
(1,761,401
)
Proceeds from sale of property and equipment
   
342,780
     
4,000
 
Net cash used in investing activities
   
(1,472,643
)
   
(2,097,773
)
                 
Cash flows from financing activities:
               
Repayment of notes payable
   
(617,472
)
   
(441,221
)
Net cash used in financing activities
   
(617,472
)
   
(441,221
)
                 
Net (decrease) increase in cash and cash equivalents
   
2,612,835
     
(436,970
)
                 
Cash and cash equivalents at the beginning of the period
   
3,260,244
     
3,306,608
 
                 
Cash and cash equivalents at the end of the period
 
$
5,873,079
   
$
2,869,638
 
 
 
Supplemental cash flow information
 
Cash paid for income taxes
 
$
1,120,000
   
$
2,109,500
 
Cash paid for interest
 
$
124,043
   
$
132,415
 


See accompanying notes to consolidated financial statements
 
 
 
- 6 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2015 and December 31, 2014
(Unaudited)
 
 
Note 1 – NATURE OF BUSINESS

Lifeway Foods, Inc. (the “Company” or “Lifeway”), an Illinois corporation, commenced operations in February 1986, and was incorporated under the laws of the State of Illinois on May 19, 1986. The Company’s principal business activity is the manufacturing of probiotic, cultured, functional dairy health food products. Lifeway’s primary product is kefir, a dairy beverage similar to but distinct from yogurt, in several flavors and in several packages. In addition to kefir, Lifeway manufactures “Lifeway Farmer Cheese,” a line of various farmer cheeses. Lifeway distributes its products throughout the United States and in London, England. The Company manufactures all of its products distributed in the United States at Company-owned facilities. In the Chicago metropolitan area, Lifeway distributes its products on its own trucks and via distributors. The Company directly distributes its products in the Philadelphia and Tri State metropolitan areas using its own trucks. The Company distributes its products throughout the remainder of the United States via distributors. The Company’s products distributed in London are manufactured and shipped to stores by a third party co-packer. Products sold by the Company to distributors in the United States may be resold by such distributors within or outside of the United States, including in Mexico, Costa Rica and the Caribbean. The Company’s products are also manufactured and distributed in Canada by a third party co-packer.
 

Note 2 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
 
Corrections of prior period financial statements
As reported in the Company’s fiscal 2014 annual report on Form 10-K, the Company recorded out-of-period adjustments during fiscal 2014 to correct the accounting for certain errors related primarily to the provision for income taxes and an understatement of depreciation expense arising from assigning incorrect useful lives.  The Company has revised its previously issued interim consolidated financial statements to correct for these matters. The adjustments decreased previously reported second quarter net income by approximately $425,000.  

There was no impact to quarterly cash flows in 2014 as the increase in net income was offset by the decrease in the non-cash reconciling items for depreciation expense and refundable income taxes. The Company does not believe that these adjustments are material to the results of operations, financial position or cash flows for any of its previously filed interim consolidated financial statements.  Accordingly, the June 30, 2014 interim consolidated financial statements included herein have been revised to reflect the adjustments discussed above. The Company will also revise its 2014 third quarter financial statements prospectively within its 2015 third quarter interim consolidated Quarterly Report on Form 10-Q.

The net-of-tax effect of these adjustments decreases the Company’s previously reported 2014 earnings per common and diluted share by $0.02 for the quarter ended March 31, 2014, $0.03 for the quarter ended June 30, 2014 and increases the Company’s 2014 earnings per common and diluted share by $0.05 for the quarter ended December 31, 2014.

Basis of presentation
The accompanying unaudited consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles (“U.S. GAAP”) for interim financial information, and do not include all of the information and disclosures required for complete, audited financial statements. In the opinion of management, all adjustments, consisting only of normal recurring adjustments, considered necessary for a fair presentation, have been included.  For further information, refer to the consolidated financial statements and disclosures included in the consolidated financial statements included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2014.

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. and Lifeway Wisconsin, Inc. Lifeway Wisconsin, Inc. was created to facilitate the operation of a production facility in Wisconsin. All significant intercompany accounts and transactions have been eliminated.
 
 
 
- 7 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2015 and December 31, 2014
(Unaudited)
 

Note 2 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES – Continued

Use of estimates
The preparation of consolidated financial statements in conformity with U.S. GAAP 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 reserve for promotional allowances, the fair value of investment securities, the valuation of goodwill and 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.

The Company routinely offers sales allowances and discounts to our customers and consumers. These programs include rebates, in-store display and demo allowances, allowances for non-salable product, coupons and other trade promotional activities. These allowances are considered reductions in the price of our products and thus are recorded as reductions to gross sales. Some of these incentives are recorded by estimating incentive costs based on our historical experience and expected levels of performance of the trade promotion. We maintain a reserve at the end of each period for the estimated allowances incurred but unpaid.  Differences between estimated and actual allowances are normally insignificant and are recognized in earnings in the period such differences are determined. Product returns have historically not been material.

Bulk cream is a by-product of the Company’s fluid milk manufacturing process. The Company does not use bulk cream in any of its end products, but rather disposes of it through sales to other companies. Bulk cream by-product sales are included in gross sales.

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 29% and 29% of gross sales for the six months ended June 30, 2015 and 2014, respectively. Two major customers accounted for approximately 27% and 29% of gross sales for the three months ended June 30, 2015 and 2014, respectively.

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

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 to the extent they are considered temporary in nature. Amortization, accretion, interest and dividends, realized gains and losses, and declines in fair value judged to be other-than-temporary on available-for-sale securities are recorded as a component of 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 fair value has occurred include: the fair value of the security in relation to its carrying amount; 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 fair value of the investment.
 
 
 
- 8 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2015 and December 31, 2014
(Unaudited)
 

Note 2 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES – Continued

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 collected 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 allowance 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.  Our products are valued using the first in, first out method.  The costs of inventories include raw materials, direct labor and indirect production and overhead costs.

Property and equipment
Property and equipment are recorded at cost and depreciated using the straight-line method over the estimated useful lives of the related assets. 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 expense 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
Leasehold improvements
 
Shorter of expected useful life or lease term

 
Intangible assets acquired in business combinations
Intangible assets acquired in a business combination are recorded 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. 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.
 
 
- 9 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2015 and December 31, 2014
(Unaudited)
 

Note 2 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES – Continued

Intangible assets are being amortized over the following useful lives:

Category
 
Years
Recipes
 
4
Trade names
 
8-15
Formula
 
10
Customer relationships
 
8-12

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 and discounts 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. Periods subject to examination for the Company’s federal returns are the 2012, 2013 and 2014 tax years. The amount of unrecognized tax benefits that, if recognized, would impact the annual effective tax rate was not significant as of June 30, 2015 and December 31, 2014. The total amount of unrecognized tax benefits can change due to audit settlements, tax examination activities, statute expirations and the recognition and measurement criteria under accounting for uncertainty in income taxes.

Treasury stock
Treasury stock is recorded using the cost method.

Advertising and promotional costs
The Company expenses advertising costs as incurred. For the six months ended June 30, 2015 and 2014 total advertising expenses were $2,741,835 and $1,824,524 respectively. For the three months ended June 30, 2015 and 2014 total advertising expenses were $867,297 and $1,006,016 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 and six months ended June 30, 2015 and 2014 the weighted average number of shares outstanding used in the calculation of diluted and basic earnings per share were the same.

Segments
The Company has two separate operating segments, the sale of fermented dairy products and three retail locations in Illinois that sell the Company’s fermented dairy products. The Company has determined reportable segments based on how the Company’s chief operating decision maker manages the business and in a manner consistent with the internal reporting provided to the chief operating decision maker. The chief operating decision maker, who is responsible for allocating resources and assessing performance of the operating segments, has been identified as the Chief Financial Officer and the board of directors that makes strategic decisions.  Substantially all of the consolidated revenues of the Company relate to the sale of fermented dairy products which are produced using the same processes and materials and are sold to consumer retail food sellers through direct delivery and distributors in the United States.
 
 
- 10 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2015 and December 31, 2014
(Unaudited)
 

Note 2 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES – Continued

Recent Accounting Pronouncements
In May 2014, the Financial Accounting Standards Board (“FASB”) issued ASU No. 2014-09, “Revenue from Contracts with Customers (Topic 606)” (“ASU 2014-09”), which supersedes the revenue recognition requirements in Topic 605, Revenue Recognition, including most industry-specific requirements. ASU 2014-09 establishes a five-step revenue recognition process in which an entity will recognize revenue when it transfers promised goods or services to customers in an amount that reflects the consideration to which the company expects to be entitled in exchange for those goods or services. ASU 2014-09 also requires enhanced disclosures regarding the nature, amount, timing and uncertainty of revenues and cash flows from contracts with customers. In August 2015 the FASB delayed the effective date for implementation of ASU 2014-09. Under the delayed effective date, the Company is required to adopt the new standard not later than January 1, 2018. Management is currently evaluating the impact the adoption of ASU 2014-09 will have on the Company’s consolidated financial position, results of operations or cash flows and the method of retrospective application, either full or modified.

In July 2015, the FASB issued new accounting guidance for measuring inventory.  The core principal of the guidance is that an entity should measure inventory at the lower of cost and net realizable value.  Net realizable value is the estimated selling prices in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation.  This guidance does not apply to inventory that is being measured using the Last-In, First-Out (LIFO) or the retail inventory method.  The guidance is effective for financial statements issued for annual and interim periods beginning after December 15, 2016 on a prospective basis.  Early adoption is permitted.  Management is currently evaluating the impact this will have on the consolidated financial statements.
 
 
Note 3 – INTANGIBLE ASSETS
 
Intangible assets, net consists of the following:

   
As of
 
   
June 30, 2015
   
December 31, 2014
 
Recipes
 
$
43,600
   
$
43,600
 
Customer lists and other customer related intangibles
   
4,529,200
     
4,529,200
 
Customer relationship
   
985,000
     
985,000
 
Trade names
   
2,248,000
     
2,248,000
 
Formula     438,000       438,000  
    Subtotal     8,243,800       8,243,800  
Accumulated amortization
   
(5,541,875
)
   
(5,184,036
)
Intangible assets, net
 
$
2,701,925
   
$
3,059,764
 


Note 4 – INVESTMENTS

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

June 30, 2015
 
Cost
   
Unrealized
Gains
   
Unrealized
Losses
   
Fair
Value
 
Common Stocks & ETF’s
 
$
1,027,735
   
$
22,941
   
$
(66,129
)
 
$
984,547
 
Mutual Funds
   
58,102
      0      
(4,916
)
   
53,186
 
Preferred Securities
   
97,405
     
675
      0      
98,080
 
Corporate Bonds
   
1,887,218
     
9,885
     
(183,164
)
   
1,713,939
 
Total
 
$
3,070,460
   
$
33,501
   
$
(254,209
)
 
$
2,849,752
 
 

 
 
- 11 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2015 and December 31, 2014
(Unaudited)
 
 
Note 4 – INVESTMENTS – Continued
 
December 31, 2014
 
Cost
   
Unrealized
Gains
   
Unrealized
Losses
   
Fair
Value
 
Common Stocks & ETF’s
 
$
530,328
   
$
19,608
   
$
(64,046
)
 
$
485,890
 
Mutual Funds
   
445,337
     
0
     
(10,624
)
   
434,713
 
Preferred Securities
   
180,120
     
195
     
(2,075
)
   
178,240
 
Corporate Bonds
   
1,948,596
     
1,880
     
(270,179
)
   
1,680,297
 
Total
 
$
3,104,381
   
$
21,683
   
$
(346,924
)
 
$
2,779,140
 

 
Proceeds from the sale of investments were $1,133,647 and $1,419,362 for the six months ended June 30, 2015 and 2014, respectively.  Proceeds from the sale of investments were $440,424 and $864,753 for the three months ended June 30, 2015 and 2014, respectively.
 
Gross gains of $13,047 and $34,984 and gross losses of $80,822 and $151,472 were realized on these sales during the six months ended June 30, 2015 and 2014, respectively. Gross gains of $7,545 and $15,333 and gross losses of $70,227 and $136,629 were realized on these sales during the three months ended June 30, 2015 and 2014, 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, 2015 and December 31, 2014:
 
   
Less Than 12 Months
   
12 Months or Greater
   
Total
 
June 30, 2015
 
Fair Value
   
Unrealized Losses
   
Fair Value
   
Unrealized Losses
   
Fair Value
   
Unrealized Losses
 
Common Stocks & ETF’s
 
$
419,655
   
$
(39,292
)
 
$
157,897
   
$
(26,837
)
 
$
577,552
   
$
(66,129
)
Mutual Funds
   
47,858
     
(3,204
)
   
5,328
     
(1,712
)
   
53,186
     
(4,916
)
Preferred Securities
   
0
     
0
     
0
     
0
     
0
     
0
 
Corporate Bonds
   
692,965
     
(61,201
)
   
749,771
     
(121,963
)
   
1,442,736
     
(183,164
)
   
$
1,160,478
   
$
(103,697
)
 
$
912,996
   
$
(150,512
)
 
$
2,073,474
   
$
(254,209
)
 
 
 
   
Less Than 12 Months
   
12 Months or Greater
   
Total
 
December 31, 2014
 
Fair Value
   
Unrealized Losses
   
Fair Value
   
Unrealized Losses
   
Fair Value
   
Unrealized Losses
 
Common Stocks & ETF’s
 
$
162,268
   
$
(49,053
)
 
$
141,417
   
$
(14,993
)
 
$
303,685
   
$
(64,046
)
Mutual Funds
   
434,713
     
(10,624
)
   
0
     
0
     
434,713
     
(10,624
)
Preferred Securities
   
80,640
     
(2,075
)
   
0
     
0
     
80,640
     
(2,075
)
Corporate Bonds
   
1,056,140
     
(194,641
)
   
497,277
     
(75,538
)
   
1,553,417
     
(270,179
)
   
$
1,733,761
   
$
(256,393
)
 
$
638,694
   
$
(90,531
)
 
$
2,372,455
   
$
(346,924
)
 
 
The Company’s investments in equity securities, mutual funds, preferred securities, and corporate bonds consist of investments in common stock, preferred stock, structured notes and other debt securities of companies in various industries. During the first quarter of 2015, the Company recorded other-than-temporary impairment losses of approximately $180,000 with respect to three structured notes. The impairment loss is included in “other income (expense), net” in the accompanying consolidated statements of income and comprehensive income.  The structured notes allow the issuer to settle at less than par in certain circumstances. In reaching a conclusion to record these other-than-temporary impairment losses, the Company evaluated the near-term prospects of the issuers and determined it was probable the
 
 
- 12 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2015 and December 31, 2014
(Unaudited)
 

Note 4 – INVESTMENTS – Continued
 
issuers would have the ability to settle the bonds for an amount less than par value at maturity. With respect to one other corporate bond with unrealized losses greater than 12 months, 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 the investment to be other-than-temporarily impaired at June 30, 2015.


Note 5 – INVENTORIES

Inventories consist of the following:

   
June 30,
2015
   
December 31,
2014
 
Finished goods
 
$
1,820,587
   
$
2,373,476
 
Production supplies
   
2,565,425
     
2,069,742
 
Raw materials
   
1,903,804
     
1,371,001
 
Total inventories
 
$
6,289,816
   
$
5,814,219
 
 
 
Note 6 – PROPERTY AND EQUIPMENT

Property and equipment consist of the following:

   
June 30,
2015
   
December 31,
2014
 
Land
 
$
1,756,673
   
$
1,856,370
 
Buildings and improvements
   
16,417,110
     
15,125,803
 
Machinery and equipment
   
22,697,235
     
20,434,910
 
Vehicles
   
1,310,527
     
1,244,560
 
Office equipment
   
602,087
     
465,801
 
Construction in process
   
30,260
     
2,408,754
 
     
42,813,892
     
41,536,198
 
Less accumulated depreciation
   
20,838,961
     
19,643,803
 
Total property and equipment
 
$
21,974,931
   
$
21,892,395
 

 
Note 7 – ACCRUED EXPENSES

Accrued expenses consist of the following:

   
June 30,
2015
   
December 31,
2014
 
Accrued payroll and payroll taxes
 
$
1,201,895
   
$
891,763
 
Accrued property tax
   
352,169
     
331,278
 
Other
   
3,148,698
     
843,035
 
   
$
4,702,762
   
$
2,066,076
 

 
 
- 13 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2015 and December 31, 2014
(Unaudited)
 
 
Note 8 – NOTES PAYABLE

Notes payable consist of the following:

   
June 30,
2015
   
December 31,
2014
 
             
Note payable to Private Bank in monthly installments of $42,222, plus variable interest rate (currently 2.67%) with a balloon payment for the remaining balance. Collateralized by substantially all assets of the Company. Maturity date - May 31, 2018.
 
$
4,098,889
   
$
4,352,222
 
                 
Note payable to Private Bank in monthly installments of $27,778, plus variable interest rate (currently 2.67%) with a balloon payment for the remaining balance, maturing on May 31, 2019, collateralized by substantially all assets of the Company.
   
4,280,439
     
4,583,333
 
                 
Notes payable to Ford Credit Corp. payable in monthly installments of $1,778 at 5.99%, paid in March 2015.
   
     
12,198
 
                 
Note payable to Fletcher Jones of Chicago, Ltd LLC in monthly installments of $1,769 at 6.653%, paid in March 2015.
   
     
49,047
 
Total notes payable
   
8,379,328
     
8,996,800
 
Less current maturities
   
840,000
     
872,285
 
Total long-term portion
 
$
7,539,328
   
$
8,124,515
 
 

 
In accordance with the Private Bank agreements referenced above, the Company is subject to minimum fixed charged ratio and tangible net worth thresholds. The Company was in compliance with these financial covenants at June 30, 2015.  Further, the Company is required to deliver its annual and quarterly consolidated financial statements and related SEC filings within specified timeframes. Due to the Company’s delay in completing such filings the Company obtained waivers as further discussed in Note 14.

In addition, as of June 30, 2015 the Company had a $5 million revolving credit facility with The Private Bank. Borrowings under the facility were subject to interest at the prime rate or LIBOR plus 2.5%. At June 30, 2015 there were no borrowings under the facility. The facility expires on July 31, 2016.

Maturities of notes payables are as follows:

For the 12 Months Ended June 30,
   
2016
 
$
840,000
 
2017
   
840,000
 
2018
   
840,000
 
2019
   
2,912,233
 
2020
   
2,947,095
 
Total
 
$
8,379,328
 
 
 

 
- 14 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2015 and December 31, 2014
(Unaudited)
 
 
Note 9 – COMMITMENTS AND CONTINGENCIES

The Company leases three stores for its Starfruit subsidiary. Total expense for these leases was $134,733 and $150,566 for the six months ended June 30, 2015 and 2014, 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 June 30, 2015 are approximately as follows:

For the 12 months ending June 30,
       
2016
 
$
73,000
 
2017
   
75,000
 
2018
   
63,000
 
2019
   
29,000
 
Total
 
$
240,000
 

 
Note 10 – PROVISION FOR INCOME TAXES

The effective tax rate for the three and six months ended June 30, 2015 was 54.7% and 50.6% respectively compared to 54.7% and 53.4% respectively for the three and six months ended March 31, 2014.   The difference between the statutory and effective tax rate reflects certain operating expenses that are not fully deductible for federal income tax purposes.

 
Note 11 – 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 on a recurring basis. There have been no changes in the methodologies used as of June 30, 2015 and December 31, 2014.
 
 
 
- 15 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2015 and December 31, 2014
(Unaudited)
 

Note 11 – FAIR VALUE MEASUREMENTS – Continued

The majority of the Company’s fair value measurements for investments are classified within Level 1 or Level 2 of the fair value hierarchy. The Company’s Level 1 fair value measurements, which include mutual funds and common stock, is based on quoted market prices in active markets for identical securities. The Company’s Level 2 fair value measurements, which include corporate bonds, 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.

The following table sets forth by level, within the fair value hierarchy, the Company’s financial assets measured at fair value on a recurring basis as of June 30, 2015 and December 31, 2014. 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 June 30, 2015
 
   
Level 1
   
Level 2
   
Level 3
   
Total
 
Mutual Funds
 
$
53,186
   
$
   
$
   
$
53,186
 
Common Stocks & ETF’s
   
984,547
     
     
     
984,547
 
Preferred Securities
   
     
98,080
     
     
98,080
 
Corporate Bonds
   
     
1,629,219
     
84,720
     
1,713,939
 
                                 

 
   
Assets and Liabilities at Fair Value as of December 31, 2014
 
   
Level 1
   
Level 2
   
Level 3
   
Total
 
Mutual Funds
 
$
434,713
   
$
   
$
   
$
434,713
 
Common Stocks & ETF’s
   
485,890
     
     
     
485,890
 
Preferred Securities
   
     
178,240
     
     
178,240
 
Corporate Bonds
   
     
1,680,297
     
     
1,680,297
 
                                 

The Company’s financial assets and liabilities which are not carried at fair value on a recurring basis include cash and cash equivalents, certificates of deposit, accounts receivable, other receivables, accounts payable and notes payable for which carrying value approximates fair value.


Note 12 – 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 13 – SEGMENTS AND PRODUCTS

The Company manufactures probiotic, cultured, functional dairy health food products. The Company’s primary product is kefir, a dairy beverage similar to but distinct from yogurt, in several flavors and in several packages. In addition to the drinkable products, Lifeway manufactures “Lifeway Farmer Cheese,” a line of various farmer cheeses.

 
 
- 16 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 2015 and December 31, 2014
(Unaudited)


Note 13 – SEGMENTS AND PRODUCTS – Continued

Net sales of products by category for the six months ended June 30 were as follows:

   
Six months ended
June 30,
   
Three months ended
June 30,
 
   
2015
   
2014
   
2015
   
2014
 
Drinkable Kefir other than ProBugs
  $ 50,821,289     $ 50,651,559     $ 25,233,948     $ 25,563,748  
Pro Bugs
    4,296,976       3,683,935       2,290,905       1,820,038  
Lifeway Farmer Cheese
    3,464,377       3,367,789       1,741,985       1,681,601  
Frozen Kefir
    860,670       993,839       554,350       500,024  
Net Sales
  $ 59,443,312     $ 58,697,122     $ 29,821,188     $ 29,565,411  

 
The Company has two operating segments, the sale of fermented dairy products and three retail locations in Illinois that sell the Company’s fermented dairy products. The Company has determined reportable segments based on how the Company’s chief operating decision maker manages the business and in a manner consistent with the internal reporting provided to the chief operating decision maker. The chief operating decision maker, who is responsible for allocating resources and assessing performance of the operating segments, has been identified as the Chief Financial Officer and the board of directors that makes strategic decisions. Substantially all of the consolidated revenues of the Company relate to the sale of fermented dairy products which are produced using the same processes and materials and are sold to consumer retail food sellers through direct delivery and distributors in the United States.

The Company has less than $1 million in revenues attributable to its retail locations during the three and six months ended June 30, 2015 and 2014. The annual revenues attributable to the three retail locations are not material and accordingly the Company has not presented financial information separately for this operating segment. Substantially all of the consolidated revenues and assets of the Company are within the United States.

 
Note 14 - SUBSEQUENT EVENTS

On April 6, 2015, May 14, 2015 and August 25, 2015 the Company received letters (the “Nasdaq Notices”) from The NASDAQ Stock Market LLC (“Nasdaq”) notifying the Company that because it had not yet filed with the SEC its Annual Report on Form 10-K for the fiscal year ended December 31, 2014 (the “Form 10-K”) and its Quarterly Reports on Form 10-Q for the fiscal quarters ended March 31, 2015 (the “First Quarter Form 10-Q”) and June 30, 2015 (the “Second Quarter Form 10-Q”), the Company is not in compliance with the periodic filing requirements for continued listing set forth in Nasdaq Listing Rule 5250(c)(1).  The Company filed the Form 10-K on August 14, 2015, the First Quarter Form 10-Q on September 29, 2015 and the Second Quarter Form 10-Q on September 30, 2015.

On August 11, 2015, The Private Bank agreed to extend the due date for the Company to deliver its Annual Report on Form 10-K for the fiscal year ended December 31, 2014 until August 14, 2015 as well as the due date for the Company to deliver its First Quarter Form 10-Q to September 30, 2015 and its Second Quarter Form 10-Q to October 15, 2015.  On August 11, 2015, The Private Bank also extended the maturity date for the revolving credit facility to July 31, 2016.

On September 24, 2015, the Company’s Board of Directors authorized a stock repurchase program under which the Company may repurchase up to $3,500,000 of the Company’s common stock not to exceed an aggregate of 250,000 shares, in the open market or in privately negotiated transactions, in accordance with all applicable securities laws and regulations, including Rule 10b-18 of the Securities Exchange Act of 1934, as amended. The extent to which the Company repurchases its shares and the timing of such repurchases will depend upon a variety of factors, including market conditions, regulatory requirements and other corporate considerations, as determined by management. The repurchase program may be suspended or discontinued at any time.

 
 
 
 
 
 
 
 
 
 
 

 

 
- 17 -

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

The following discussion of the financial condition and results of operations of Lifeway Foods, Inc. as of and for the three and six months ended June 30, 2015 should be read in conjunction with the unaudited consolidated financial statements and the notes to those statements that are included elsewhere in this report on Form 10-Q and the audited financial statements and Management’s Discussion and Analysis contained in our Form 10-K for the year ended December 31, 2014 (the “Form 10-K”). In addition to historical information, the following discussion contains certain forward-looking statements within the “safe harbor” provisions of the Private Securities Litigation Reform Act of 1995. These statements relate to our future plans, objectives, expectations and intentions. These statements may be identified by the use of words such as “may”, “will”, “could”, “expect”, “anticipate”, “intend”, “believe”, “estimate”, “plan”, “predict”, and similar terms or terminology, or the negative of such terms or other comparable terminology. Although we believe the expectations expressed in these forward-looking statements are based on reasonable assumptions within the bound of our knowledge of our business, our actual results could differ materially from those discussed in these statements. Factors that could contribute to such differences include, but are not limited to, those discussed in the “Risk Factors” section of the Form 10-K. We undertake no obligation to update publicly any forward-looking statements for any reason even if new information becomes available or other events occur in the future.

Comparison of three month period ended June 30, 2015 to the three month period ended June 30, 2014

Results of Operations

Net sales

The following table summarizes our net sales:

   
Three months ended
June 30,
   
Change
 
   
2015
   
2014
   
$
     
%
 
Gross Sales
 
$
36,291,842
   
$
32,594,048
   
$
3,697,794
     
11.3%
 
Less: Discounts & promotional allowances
   
(6,470,654
)
   
(3,028,637
)
   
(3,442,017
)
   
113.6%
 
Net Sales
 
$
29,821,188
   
$
29,565,411
   
$
255,777
     
0.9%
 
Discounts & promotional allowances % to gross sales
   
17.8%
     
9.3%
                 

Net sales increased by $255,777 or 0.9% to $29,821,188 The increase in net sales reflects a $3,697,794 or 11.3% increase in gross sales reflecting higher volumes of drinkable Kefir offset by significantly higher discounts and promotional allowances given to customers.  
 
 
 
 
 
 
 
 
- 18 -

 
Cost of goods sold

The following table summarizes our cost of goods sold:

   
Three months ended
June 30,
   
Change
 
   
2015
   
2014
   
$
     
%
 
Purchases
 
$
13,815,824
   
$
14,714,737
   
$
(898,913
)    
-6.1%
 
Testing
   
38,903
     
13,145
     
25,758
     
195.9%
 
Supplies
   
506,240
     
371,637
     
134,603
     
36.2%
 
Salaries production
   
3,089,472
     
2,221,464
     
868,008
     
39.1%
 
Contract work
   
36,977
     
97,543
     
(60,566
)    
-62.1%
 
Freight
   
3,519,854
     
2,970,266
     
549,588
     
18.5%
 
Delivery expense
   
135,587
     
78,229
     
57,358
     
73.3%
 
Labor and overhead
   
1,058,272
     
965,603
     
92,669
     
9.6%
 
Cost of Goods Sold, excluding depreciation
   
22,201,129
     
21,432,624
     
768,505
     
3.6%
 
Depreciation expense
   
604,531
     
627,878
     
(23,347
)
   
-3.7%
 
Cost of Goods Sold
 
$
22,805,660
   
$
22,060,502
   
$
745,158
     
3.4%
 
                                 
Cost of Goods sold % to net sales
   
76.5%
     
74.6%
                 

Cost of goods sold, excluding depreciation expense increased by $768,505 or 3.6% to $22,201,129 during the three-month period ended June 30, 2015 from $21,432,624 during the same three-month period in 2014.  Cost of goods sold, excluding depreciation expense as a percent of sales was 74.4% during the three-month period ended June 30, 2015 compared to 72.5% during the same three-month period in 2014.  The overall increase in the cost of goods sold percent to net sales reflects the elevated level of promotional allowances and discounts given to customers.

Depreciation expense decreased by $23,347 or about 3.7% to $604,531 during the three-month period ended June 30, 2015 from $627,878 during the same three-month period in 2014.

Selling Expenses

The following table summarizes our selling expenses:

   
Three months ended
June 30,
   
Change
 
   
2015
   
2014
   
$
     
%
 
Salesperson commissions
 
$
779,752
   
$
799,104
   
$
(19,352)
     
-2.4%
 
Advertising
   
867,297
     
1,006,016
     
(138,719)
     
-13.8%
 
Salaries
   
914,394
     
1,334,037
     
(419,643)
     
-31.5%
 
Promotions payable
   
42,851
     
131,552
     
(88,701)
     
-67.4
 
Travel
   
13,105
     
423,112
     
(410,007)
     
-96.9
 
Selling expense
 
$
2,617,399
   
$
3,693,821
   
$
(1,076,422)
     
29.1%
 
% to net sales
   
8.8%
     
12.5%
                 
 
 
Selling expenses decreased by $1,076,422 or 29.1% to $2,617,399 during the three-month period ended June 30, 2015 from $3,693,821 during the same period in 2014.  Selling expenses as a percentage of sales were 8.8 % for the three-month period ended June 30, 2015 compared to 12.5% for the same period in 2014.  The decrease reflects the reassignment of Company personnel in 2015 from principally selling responsibilities to broader general management responsibilities and lower travel due to timing.

 
 
- 19 -

 
General and administrative expenses

The following table summarizes our general and administrative expenses:

   
Three months ended
June 30,
   
Change
 
   
2015
   
2014
   
$
     
%
 
Salaries
 
$
1,746,732
   
$
798,812
   
$
947,920
     
118.7%
 
Rent
   
69,753
     
78,645
     
(8,892
)
   
-11.3%
 
Equipment lease
   
1,740
     
2,026
     
(286
)    
-14.1%
 
Auto expense
   
54,388
     
33,851
     
20,537
     
60.7%
 
Office supplies
   
54,557
     
42,258
     
12,299
     
29.4%
 
Professional fees
   
1,372,920
     
623,068
     
749,852
     
120.3%
 
Telephone expense
   
42,972
     
29,368
     
13,604
     
46.3%
 
Facilities
   
561,425
     
192,388
     
369,037
     
191.8%
 
Tax
   
47,574
     
56,030
     
(8,456
)    
-15.1%
 
Miscellaneous
   
218,094
     
250,751
     
(32,657
)
   
-13.0%
 
General & administrative expense
 
$
4,170,155
   
$
2,107,197
   
$
2,062,958
     
97.9%
 
% to net sales
   
14.0%
     
7.2%
                 

 
General and administrative expenses increased $2,062,958 or 97.9% to $4,170,155 during the three-month period ended June 30, 2015 from $2,107,197 during the same period in 2014.  The increase is primarily a result of increases in salaries, facilities expense and professional fees.  Salaries increased $947,920 or 118.7% to $1,746,732 during the three-month period ended June 30, 2015 from $798,812 during the same period in 2014.  The increase reflects the reassignment of Company personnel in 2015 from principally selling responsibilities to broader general management responsibilities.  Professional fees, which consists primarily of legal and accounting fees increased by $749,852 or 120.3% to $1,372,920 in the three-month period ended June 30, 2015 from $623,068 during the same period in 2014.  The higher professional fees are due to costs associated the company’s delayed SEC filings.  Expenses related to our facilities, increased by $369,037 or 191.8% to $561,425 in the three-month period ended June 30, 2015 from $192,388 during the same period in 2014. The increase is primarily due to higher utility costs associated with the Wisconsin facility.

Income from operations and net income

The company reported income from operations of $49,054 during the second quarter of 2015, compared to $1,524,972 during the same period in 2014. Provision for income taxes was $119,626, or a 54.7% effective rate for the second quarter of 2015 compared to a provision for income taxes of $807,768 or a 54.7% effective tax rate, during the same period in 2014. Income taxes are discussed in Note 10 to the Notes to the Consolidated Financial Statements.

Net income was $98,913 or $0.01 per basic and diluted common share for the three-month period ended June 30, 2015 compared to $669,416 or $0.04 per basic and diluted common share in the same period in 2014.

 

 
 
- 20 -

 
Comparison of six month period ended June 30, 2015 to the six month period ended June 30, 2014

Results of Operations

Net sales

The following table summarizes our net sales:

   
Six months ended
June 30,
   
Change
 
   
2015
   
2014