LWAY · Read the filing

ITEM 7. MANAGEMENT’S

DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion and analysis of the financial

condition and results of operations as of and for the years ended December 31, 2025 and 2024 should be read in conjunction with the audited

consolidated financial statements and the notes to those statements that are included elsewhere in this Annual Report on 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,” “could,” “believe,”

“future,” “depend,” “expect,” “will,” “result,” “can,” “remain,”

“assurance,” “subject to,” “require,” “limit,” “impose,” “guarantee,”

“restrict,” “continue,” “become,” “predict,” “likely,” “opportunities,”

“effect,” “change,” and “estimate,” 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 bounds 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 in Part I, Item 1A. 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.

Recent Developments

Cooperation Agreement

On September 30, 2025, the Company and Danone entered into a Cooperation

Agreement (the “Cooperation Agreement”) pursuant to which, among other things:

All of Danone’s obligations (other than

the non-disparagement covenants) cease to apply upon certain “triggering events,” including breaches of the Cooperation Agreement

by the Company or certain statements by the Company, Julie Smolyansky or any of their respective affiliates or representatives challenging

the validity of the Cooperation Agreement or the Stockholders’ Agreement. Additionally, if Julie Smolyansky is deemed to have breached

the Cooperation Agreement while she is Chief Executive Officer of the Company, such breach will be a triggering event under the Cooperation

Agreement unless the Board terminates Julie Smolyansky for cause as a result of such breach within a specified time period.

All of the Company’s obligations under the Stockholders’

Agreement (other than those relating to Danone’s registration rights and rights with respect to inspection of our books and records)

cease to apply after Danone and its affiliates no longer collectively beneficially own at least 761,438 (as adjusted for any reverse stock

split or similar recapitalization). The Company’s obligations under the Cooperation Agreement (other than the non-disparagement

covenants) cease to apply after Danone and its affiliates cease to beneficially own any shares of Common Stock.

Debt Refinancing

On February 5, 2025,

the Company entered into the Fifth Modification to the Amended and Restated Loan and Security Agreement (the “Fifth Modification”)

with its current lender. The Fifth Modification, among other things, (i) increased the commitment for revolving loans under the Credit

Agreement from $5,000 to $25,000, with interest payable at either the lender Base Rate (the Prime Rate minus 1.00%) or the SOFR plus 1.75%,

(ii) extended the termination date of the Credit Agreement to February 5, 2028 and (iii) replaced the quarterly minimum working capital

financial covenant with a financial covenant to maintain a maximum cash flow leverage ratio of no greater than 2.00 to 1.00 for each fiscal

quarter commencing with the fiscal quarter ending March 31, 2025. The remaining material terms and conditions of the Credit Agreement

remain substantially unchanged. The Company had no outstanding borrowings at the time of entry into the Fifth Modification.

On December 29, 2025,

the Company entered into the Sixth Modification to the Amended and Restated Loan and Security Agreement (the “Sixth Modification”)

with its current lender. The Sixth Modification, provides for, among other things, (i) modification of the Fixed Charge Coverage Ratio

only for the period from December 31, 2025 through June 30, 2027 to exclude the Waukesha, WI unfinanced capital expenditures attributable

to plant optimization and manufacturing capacity expansion as approved by Lender, up to $50,000 (ii) modification of the Change of Control

definition to reflect that specified changes to the Company’s board of directors do not constitute a Change of Control and (iii)

extended the termination date of the Credit Agreement to February 5, 2029. The remaining material terms and conditions of the Credit Agreement

remain substantially unchanged. The Company had no outstanding borrowings at the time of entry into the Sixth Modification.

Organic Milk Supply

To increase the supply of organic milk available

to the Company for the manufacture of finished goods, the Company is purchasing mature dairy cows (or the “herd”) which will

be managed by a third-party dairy facility (the “Dairy”), and entered into a supply and purchase agreement (“SPA”)

with a COOP (the “COOP”) to purchase the milk produced by the herd. The Company purchased 799 mature dairy cows during 2025

for $2,870.

As amended in September 2025, the Company entered

into a sixty month agreement (the “Herd Agreement”) with a third-party Dairy who will manage care of the herd, milk the herd,

and sell the milk to the COOP under the SPA, with a right to purchase the herd at the end of the agreement period for a nominal amount.

Beginning December 1, 2025, the Dairy will make monthly payments to Lifeway over the five year agreement period in exchange for its right

to possess and control the herd, including the right to sell milk produced by the herd to the COOP.

The herd agreement is treated as a sale of non-financial

assets to a party that is not a customer. The Company will recognize a sale upon the delivery of each herd to the Dairy, with interest

income recognized over the agreement period. The Company has recorded $635 in prepaid and other current assets and $2,235 in other assets

as of December 31, 2025 related to the herd agreement with no recorded gain or loss on sale. The Company records the purchases of dairy

cows as investing outflows, principal payments received as investing inflows and interest income as operating inflows on the statement

of cash flows.

Trends and Uncertainties

Current Macroeconomic Environment

We continue to monitor

macroeconomic conditions and global trade developments, including inflation in key input costs, recently implemented tariffs, and the

potential for additional or modified tariffs or export controls. These evolving global trade policies may contribute to increased supply

chain complexity, commodity cost volatility, and broader economic uncertainty. We do not currently expect these conditions to have

a material adverse impact on our operations or financial results. We are primarily a United States based manufacturer sourcing a vast

majority of our inputs domestically. In addition, all our domestically produced products are sold to customers in the United States. We

expect the accelerating consumer focus on health and wellness to drive increased demand for our products.

Results of Operations

Comparison of Year Ended December 31, 2025

to Year Ended December 31, 2024 (in thousands)

The following table presents certain information

concerning our financial results, including information presented as a percentage of consolidated net sales:

Year Ended December 31,

$ % $ %

Other income (expense):

Fair Value loss on investment (95 ) (0.0% ) – 0.0%

Gain on sale of investment 3,407 1.6% – 0.0%

Gain (loss) on sale of equipment – (0.0% ) (8 ) 0.0%

Net Sales

Net sales were $212,496 for the year ended December

31, 2025, an increase of $25,676 or 13.7% versus prior year. The net sales increase was primarily driven by higher volumes of our branded

drinkable kefir. The fiscal year 2024 benefited from a customer relationship we strategically exited in the third quarter of 2024, and

a significant distributor shifting from Lifeway delivered to customer pick-up in late 2024, which resulted in lower net sales and lower

freight out expense. On a comparable basis adjusting for these two factors, the Company’s net sales increased approximately 19%

in the fiscal year 2025 compared to fiscal year 2024.

Gross Profit

Gross profit as a percentage of net sales increased

to 27.4% during the year ended December 31, 2025 from 26.0% during the same period in 2024. The increase versus the prior year was driven

by higher volumes of our branded products, which provided manufacturing efficiencies and the favorable impact of conventional milk pricing.

Selling Expenses

Selling expenses increased by $5,148 to $19,891

during the year ended December 31, 2025 from $14,473 during the same period in 2024. Selling expenses as a percentage of net sales increased

to 9.4% during the year ended December 31, 2025 from 7.9% during the same period in 2024. The increase is primarily a result of our continued

investments in marketing activities to drive brand awareness and sales volumes.

General and Administrative Expenses

General and administrative expenses increased

$2,164 to $21,603 during the year ended December 31, 2025 from $19,439 during the same period in 2024. The Company incurred approximately

$6,200 of legal and professional fees associated with Danone’s unsolicited purchase proposal and non-routine stockholder action

during 2025. During 2024, the Company incurred approximately $4,500 of legal and professional fees associated with Danone’s unsolicited

purchase proposal, non-routine stockholder action, and the CEO retention bonus awarded in the fourth quarter of 2024.

Provision for Income Taxes

The provision for income taxes includes federal,

state and local income taxes. The provision for income taxes was $5,827 and $4,944 during the year ended December 31, 2025, and 2024,

respectively.

The effective income tax rate was 29.6% in 2025 compared to 35.4% in

2024. The statutory federal and state tax rates remained consistent from 2024 to 2025. The Company consistently reflects non-deductible

items such as non-deductible officer compensation expense, non-deductible compensation expense related to equity incentive awards, and

separate state tax rates from year to year. Although similar items were reflected in 2025, the percentage effect is different primarily

due to the decrease in certain non-deductible compensation in 2025 compared to 2024.

The Company’s effective tax rate may change

from period to period based on recurring and non-recurring factors including the relative mix of pre-tax earnings (or losses), the underlying

income tax rates applicable to various state and local taxing jurisdictions, enacted tax legislation, the impact of non-deductible items,

changes in valuation allowances, settlement of tax audits, and the expiration of the statute of limitations in relation to unrecognized

tax benefits. The Company records discrete income tax items such as enacted tax rate changes in the period in which they occur.

Section 162(m) of the Internal Revenue Code (the

“Code”) limits the deductibility of compensation paid to certain of our executives to the extent their total compensation

exceeds $1 million in any taxable year.

On July 4, 2025, the One Big Beautiful Bill Act

("OBBBA") was signed into law, which includes a broad range of tax reform provisions that may affect the Company’s financial

results. The OBBBA changes to corporate taxation include, but are not limited to, 100% bonus depreciation for purchases of qualified property,

an elective deduction for domestic research and experimental expenditures, changes to the definition of adjusted taxable income for purposes

of determining the interest deduction limitation under Internal Revenue Code Section 163(j), and a more favorable tax rate on Foreign-Derived

Deduction Eligible Income and income from non-U.S. subsidiaries (Net CFC Tested Income). The OBBBA does not have a material impact on

our estimated annual effective tax rate or cash flows in the current fiscal year.

Income taxes are discussed

in Note 10 in the Notes to the Consolidated Financial Statements.

Liquidity and Capital Resources

Management assesses the Company’s

liquidity in terms of its ability to generate cash to fund its operating, investing, and financing activities. The Company remains in

a strong financial position, and believes that its cash flow from operations, revolving credit facility, and cash and cash equivalents

will continue to provide sufficient liquidity for its working capital needs, capital resource requirements, and growth initiatives and

to ensure the continuation of the Company as a going concern.

If additional borrowings are needed,

$25,000 was available under the Revolving Credit Facility as of December 31, 2025 (see Note 7, Debt). We are in compliance with the terms

of the Credit Agreement and expect to meet foreseeable financial requirements. The success of our business and financing strategies will

continue to provide us with the financial flexibility to take advantage of various opportunities as they arise. To date, we have been

successful in generating cash and obtaining financing as needed. However, if a serious economic or credit market crisis ensues, it could

have a negative effect on our liquidity, results of operations and financial condition.

The Company’s most significant

ongoing short-term cash requirements relate primarily to funding operations (including expenditures for raw materials, labor, manufacturing

and distribution, trade and promotions, advertising and marketing, and tax liabilities) as well as expenditures for property, plant and

equipment.

Long-term cash

requirements primarily relate to funding long-term debt repayments (see Note 7, Debt) and deferred income taxes (see Note 10, Income Taxes).

Cash Flow

The following table is derived from our Consolidated

Statement of Cash Flows:

Year Ended December 31,

Net Cash Flows Provided By (Used In):

Financing activities $ (65 ) $ (2,750 )

Operating Activities

Net cash provided by operating activities was

$10,948 in 2025 compared to $12,962 in 2024. The decrease was primarily due to the change in working capital.

Investing Activities

Net cash used in investing activities was $22,040

in 2025 compared to $6,682 in 2024. The increase in cash used reflects our planned capital spending increase during 2025 compared to 2024.

The increase in purchases of property and equipment

is primarily driven by the expansion of manufacturing capacity and modernization of our Waukesha, Wisconsin facility. This project will

enable Lifeway to meet increasing sales demand and will double the facility’s manufacturing capacity and improve packaging efficiency,

as well as other operational improvements. The Company currently estimates investing approximately $48,000. As of December 31, 2025, $21,547

is included on the consolidated balance sheet in property, plant and equipment, with cumulative cash paid of $20,926. The project will

be funded primarily through cash on-hand and cash flow from operations, with further requirements available under the Company’s

revolving credit facility. The project is expected to be completed during the fourth fiscal quarter of 2026.

The increase in cash used was partially offset

by cash proceeds of $5,152 received in the first quarter and $54 in the second quarter of 2025 from the sale of our Simple Mills investment.

Our capital spending is focused in three core

areas: growth, cost reduction, and facility improvements. Growth capital spending supports capacity expansion and new product innovation

and enhancements. Cost reduction and facility improvements support manufacturing efficiency, safety, and productivity. We continue to

make capital expenditures primarily to modernize manufacturing facilities and support productivity initiatives.

Financing Activities

Net cash used in financing activities was $65

in 2025 compared to $2,750 in 2024. The cash used in 2025 represents credit agreement amendment expenses incurred during the first quarter.

The cash used in 2024 represented the quarterly principal payments under the term loan, which was paid in full during the second quarter

of 2024.

Debt Obligations

The Company is party to an Amended and Restated

Loan and Security Agreement (as amended and modified from time to time, the “Credit Agreement”) with its existing lender and

certain of its subsidiaries. The Credit Agreement provides for, among other things, a revolving line of credit up to a maximum of $25,000

(the “Revolving Credit Facility”) and an incremental facility not to exceed $5,000. The termination date of the revolving

credit facility is February 5, 2029, unless earlier terminated.

As of December 31, 2025, the Company had $0 outstanding

under the Revolving Credit Facility. The Company had $25,000 available for future borrowings under the Revolving Credit Facility as of

December 31, 2025.

All outstanding amounts under the revolving line

of credit bear interest at the Secured Overnight Financing Rate (“SOFR”), plus 1.75%. Interest is payable monthly in arrears.

Lifeway is also required to pay a quarterly unused line fee of 0.25% on the Revolving Credit Facility, and in conjunction with the issuance

of any letters of credit, a letter of credit fee of 1.00%.

The Credit Agreement includes customary representations,

warranties, and covenants, including financial covenants requiring the Company to maintain a fixed charge coverage ratio of no less than

1.25 to 1.00, and a maximum cash flow leverage ratio of no greater than 2.00 to 1.00 for each fiscal quarter commencing with the fiscal

quarter ending March 31, 2025.

The Company is in compliance with all applicable

financial debt covenants as of December 31, 2025. See Note 7 to our Consolidated Financial Statements for additional information regarding

our indebtedness and related agreements.

Off-Balance Sheet Arrangements

We do not have any off-balance sheet financing

arrangements.

Critical Accounting Estimates

Critical accounting estimates are defined as those

most important to the portrayal of a company’s financial condition and results, and require the most difficult, subjective, or complex

judgments. In many cases, the accounting treatment of a particular transaction is specifically dictated by U.S. GAAP with no need for

the application of our judgement. In certain circumstances, the preparation of our Consolidated Financial Statements in conformity with

U.S. GAAP requires us to use our judgment to make certain estimates and assumptions. These estimates affect the reported amounts of assets

and liabilities and disclosures of contingent assets and liabilities at the date of the Consolidated Financial Statements and the reported

amounts of net sales and expenses during the reporting period. We believe in the quality and reasonableness of our critical accounting

estimates; however, materially different amounts might be reported under different conditions or using assumptions, estimates or making

judgments different from those that we have applied. Management has discussed the development and selection of these critical accounting

policies, as well as our significant accounting policies (see Note 2 to the Consolidated Financial Statements), with the Audit and Corporate

Governance Committee of our Board of Directors. We have identified the policies described below as our critical accounting policies that

require us to make subjective or complex judgments.

Goodwill impairment

Goodwill totaled $11,704 as of December 31, 2025.

Goodwill represents the excess purchase price over the fair value of the net tangible and other identifiable intangible assets acquired.

Goodwill is not amortized.

The Company has one reporting unit within its

single reportable segment. We review and evaluate our goodwill for potential impairment at a minimum annually, as of December 31, or more

frequently if circumstances indicate that impairment is possible. We completed our annual goodwill impairment analysis as of December

31, 2025. Our assessment did not result in impairment.

In testing goodwill for impairment, the Company

has the option to perform a qualitative test (also known as “Step 0”) or a quantitative test (“Step 1”). Under

the Step 0 test, the Company first assesses qualitative factors to determine whether it is more likely than not that the fair value of

the reporting unit is less than its carrying value. Qualitative factors may include, but are not limited to, economic conditions, industry

and market considerations, cost factors, overall financial performance of the reporting unit and other entity and reporting unit specific

events. If after assessing these qualitative factors, the Company determines it is “more-likely-than-not” that the fair value

of the reporting unit is less than the carrying value, then performing the Step 1 quantitative test is necessary.

Step 1 of the quantitative test requires comparison

of the fair value of the Company’s one reporting unit to the carrying value. If the carrying value of the reporting unit is less

than the fair value, no impairment exists. Otherwise, the Company would recognize an impairment charge for the amount by which the carrying

amount of the reporting unit exceeds its fair value up to the amount of goodwill allocated to the reporting unit.

Under a Step 1 quantitative test, we estimate

the fair value of our one reporting unit using a combination of the fair values derived from both the income approach and the market approach.

Under the income approach, the Company uses a discounted cash flow methodology which requires management to make significant estimates

and assumptions related to forecasted revenues, gross profit margins, operating income margins, working capital cash flow, perpetual growth

rates, and long-term discount rates, among others. The discount rate used to determine the present value of future cash flows is based

on the weighted-average cost of capital adjusted for the relevant risk associated with business-specific characteristics and the uncertainty

related to the business’s ability to execute on the projected cash flows. For the market approach, the Company uses the guideline

public company method. The market approach estimates fair value based on market multiples of revenue and earnings derived from comparable

publicly traded companies with similar operating and investment characteristics. The Company also reconciles the fair value of its reporting

unit to its current market capitalization, allowing for a reasonable control premium.

Sales discounts & allowance

We offer various trade promotions and sales incentive

programs to customers and consumers. From time to time, we grant certain sales discounts to customers which are classified as a reduction

in sales. The measurement and recognition of discounts and allowances involve the use of judgment, and our estimates are made based on

historical experience and specific customer program accruals. Differences between estimated and actual discount and allowance costs are

normally not material and are recognized in earnings in the period such differences are determined. The process for analyzing trade promotion

programs could impact our results of operations and trade spending accruals depending on how actual results of the programs compare to

original estimates. As of December 31, 2025, we had $1,730 of accrued discounts and allowances.

Share-based compensation

Certain members of management and non-employee

directors receive various forms of share-based payment awards, and we recognize compensation expense for these awards based on their grant

date fair values. The grant date fair value of Restricted Stock Units (“RSUs”) and Performance Share Unit (“PSUs”)

awards is equal to the Company’s closing stock price on the grant date. The Company granted RSU and PSU awards during 2025 to employees.

The PSU awards are contingent upon the achievement of strategic milestones during a three-year measurement period. The expense recognition

of PSU awards therefore requires management to make judgements and estimates at the end of each reporting period as to the cumulative

three-year milestone achievements. Changes in management’s estimate of the three-year cumulative milestone achievements are recognized

as change in management estimate in a subsequent period. We do not estimate forfeitures in measuring the grant date fair value of RSUs

and PSUs but rather account for forfeitures as they occur. Forfeitures have historically been immaterial. See Note 11 to our consolidated

financial statements for further detail.

Income taxes

We pay income taxes based on tax statutes, regulations,

and case law of the various jurisdictions in which we operate. At any given time, multiple tax years are subject to audit by the various

taxing authorities. Income taxes are accounted for under the asset and liability method. Deferred income tax assets and liabilities are

recognized for the future tax effects of temporary differences between financial and income tax reporting using tax rates in effect for

the years in which the differences are expected to reverse. The assumptions about future taxable income require the use of significant

judgment and are consistent with the plans and estimates we are using to manage our underlying businesses.

We recognize an income tax benefit from an uncertain

tax position only if it is more likely than not that the tax position will be sustained on examination by the taxing authorities based

on the technical merits of the position. The income tax benefit recognized in our financial statements from such a position is measured

based on the largest estimated benefit that has a greater than 50% likelihood of being realized upon ultimate settlement. These judgments

and estimates made at a point in time may change based on the outcome of tax audits and changes to, or further interpretations of, regulations.

If such changes take place, there is a risk that our tax rate may increase or decrease in any period, which would impact our earnings.

Future business results may affect deferred tax liabilities or the valuation of deferred tax assets over time.

Recent Accounting Pronouncements.

See Note 2, Summary of Significant Accounting

Policies, in the Notes to the Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10-K for information

regarding recent accounting pronouncements.

ITEM 7A. QUANTITATIVE AND

QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Not applicable.

ITEM 8. FINANCIAL STATEMENTS

AND SUPPLEMENTARY DATA

Report of Independent Registered Accounting Firm (PCAOB ID 248) F-1

Consolidated Balance Sheets as of December 31, 2025 and 2024 F-2

Notes to Consolidated Financial Statements F-6

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING

FIRM

Board of Directors and Stockholders

Lifeway Foods, Inc.

Opinion on the financial statements

We have audited the accompanying consolidated

balance sheets of Lifeway Foods, Inc. (an Illinois corporation) and subsidiaries (the “Company”) as of December 31, 2025 and

2024, the related consolidated statements of operations, stockholders’ equity, and cash flows for each of the two years in the period

ended December 31, 2025, and the related notes (collectively referred to as the “financial statements”). In our opinion, the

consolidated financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2025

and 2024, and the results of its operations and its cash flows for each of the two years in the period ended December 31, 2025, in conformity

with accounting principles generally accepted in the United States of America.

Basis for opinion

These consolidated financial statements are the

responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s consolidated financial

statements based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United

States) (“PCAOB”) and are required to be independent with respect to the Company in accordance with the U.S. federal securities

laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

We conducted our audits in accordance with the

standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial

statements are free of material misstatement, whether due to error or fraud. The Company is not required to have, nor were we engaged

to perform, an audit of its internal control over financial reporting. As part of our audits we are required to obtain an understanding

of internal control over financial reporting but not for the purpose of expressing an opinion on the effectiveness of the Company’s

internal control over financial reporting. Accordingly, we express no such opinion.

Our audits included performing procedures to assess

the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond

to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements.

Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating

the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.

Critical audit matters

The critical audit matters are matters arising

from the current period audit of the financial statements that were communicated or required to be communicated to the audit committee

and that: (1) relate to accounts or disclosures that are material to the financial statements and (2) involved our especially challenging,

subjective, or complex judgments. We determined that there are no critical audit matters.

/s/ GRANT THORNTON LLP

We have served as the Company’s auditor since 2022.

Chicago, Illinois

March 17, 2026

LIFEWAY FOODS, INC. AND SUBSIDIARIES

Consolidated Balance Sheets

December 31, 2025 and 2024

(In thousands)

December 31,

Current assets

Prepaid expenses and other current assets 2,627 2,144

Refundable income taxes 325 631

Operating lease right-of use asset 465 118

Current liabilities

Accrued income taxes 218 –

Operating lease liabilities 360 70

Commitments and contingencies (Note 9) – –

Stockholders’ equity

Preferred stock, no par value; 2,500 shares authorized; none issued – –

Total liabilities and stockholders’ equity $ 105,610 $ 90,547

See accompanying notes to consolidated financial

statements

LIFEWAY FOODS, INC. AND SUBSIDIARIES

Consolidated Statements of Operations

For the Years Ended December 31, 2025 and 2024

(In thousands, except per share data)

Other income (expense):

Interest expense (77 ) (105 )

Fair value loss on investment (95 ) –

Gain on sale of investment 3,407 –

Gain (loss) on sale of property and equipment – (8 )

Total other income (expense) 3,514 117

Income before provision for income taxes 19,686 13,969

Net earnings per common share:

Weighted average common shares outstanding:

See accompanying notes to consolidated financial

statements

LIFEWAY FOODS, INC. AND SUBSIDIARIES

Consolidated Statements of Stockholders’

Equity

For the Years Ended December 31, 2025 and 2024

(In thousands)

Common Stock

Issued In treasury Paid-In Retained Total

Shares $ Shares $ Capital Earnings Equity

Issuance of common stock on exercise of stock options – – 11 70 36 – 106

Stock-based compensation – – – – 2,561 – 2,561

Issuance of common stock on exercise of stock options – – 3 19 14 – 33

Stock-based compensation – – – – 1,947 – 1,947

See accompanying notes to consolidated financial

statements

LIFEWAY FOODS, INC. AND SUBSIDIARIES

Consolidated Statements of Cash Flows

For the Years Ended December 31, 2025 and 2024

(In thousands)

Cash flows from operating activities:

Adjustments to reconcile net income to operating cash flow:

Depreciation and amortization 3,980 3,386

Non-cash interest expense 19 17

(Gain) loss on sale of equipment (115 ) 8

Gain on sale of investments (3,407 ) –

Fair value loss on investment 96 –

Deferred income taxes (270 ) 61

(Increase) decrease in operating assets:

Prepaid expenses and other current assets 151 (125 )

Refundable income taxes 306 (631 )

Increase (decrease) in operating liabilities:

Accrued income taxes 218 (474 )

Net cash provided by operating activities 10,948 12,962

Cash flows from investing activities:

Purchases of property and equipment (27,361 ) (6,697 )

Proceeds from sale of equipment 115 15

Proceeds from sale of investments 5,206 –

Net cash used in investing activities (22,040 ) (6,682 )

Cash flows from financing activities:

Repayment of note payable – (2,750 )

Payment of deferred financing costs (65 ) –

Net cash used in financing activities (65 ) (2,750 )

Net (decrease) increase in cash and cash equivalents (11,157 ) 3,530

Cash and cash equivalents at the beginning of the period 16,728 13,198

Cash and cash equivalents at the end of the period $ 5,571 $ 16,728

Supplemental cash flow information:

Cash paid for income taxes, net of (refunds) $ 5,588 $ 5,987

Cash paid for interest $ 58 $ 98

Non-cash investing activities

Accrued purchase of property and equipment $ 774 $ 407

Right-of-use assets obtained in exchange for lease obligations $ 426 $ –

See accompanying notes to consolidated financial

statements

LIFEWAY FOODS, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

December 31, 2025 and 2024

(In thousands)

Note 1 – Basis of presentation

The consolidated financial statements and accompanying

notes have been prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”).

The consolidated financial statements include all of the assets, liabilities and results of operations of Lifeway Foods, Inc. and its

wholly owned subsidiaries (collectively “Lifeway” or the “Company”). All inter-company balances and transactions

have been eliminated in the consolidated financial statements.

Note 2 – Summary of significant accounting

policies

Use of estimates

The preparation of consolidated financial statements

in conformity with U.S. GAAP requires management to use judgement 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 consolidated financial statements, and the

reported amounts of revenue 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 valuation of goodwill and

intangible assets, stock-based and incentive compensation, and deferred income taxes.

Cash and cash equivalents

Lifeway considers cash and all highly liquid investments

purchased with an original maturity of three months or less to be cash equivalents. Cash and cash equivalents are stated at cost, which

approximates or equals fair value due to their short-term nature.

Lifeway from time to time may have bank deposits

in excess of insurance limits of the Federal Deposit Insurance Corporation. The Company places its cash and cash equivalents with high

credit quality financial institutions. Lifeway has not experienced any losses in such accounts and believes the financial risks associated

with these financial instruments are minimal.

Revenue Recognition

Lifeway sells food and beverage products across

select product categories to customers predominantly within the United States (see Note 13 – Disaggregation of Revenue, Significant

Customers, and Geographic Information). The Company also sells bulk cream, a byproduct of its fluid milk manufacturing process. In accordance

with ASC 606, Revenue from Contracts with Customers, Lifeway recognizes revenue when control over the products transfers to its customers,

which generally occurs upon delivery to its customers or their common carriers. The amount of revenue recognized reflects the consideration

to which the Company expects to be entitled to receive in exchange for these goods or services, using the five-step method required by

ASC 606.

For the Company, the contract is the approved

sales order, which may also be supplemented by other agreements that formalize various terms and conditions with customers. The Company

applies judgment in determining the customer’s ability and intention to pay, which is based on a variety of factors including the

customer’s historical payment experience or, in the case of a new customer, published credit and financial information pertaining

to the customer.

Performance obligations promised in a contract

are identified based on the goods or services that will be transferred to the customer, which is the delivery of food and beverage products

which provide immediate benefit to the customer.

Lifeway accounts for product shipping and handling

as fulfillment activities with revenues for these activities recorded within net revenue and costs recorded within cost of goods sold.

Any taxes collected on behalf of government authorities are excluded from net revenues.

Variable consideration, which includes known or

expected pricing or revenue adjustments, such as trade discounts, allowances for non-saleable products, product returns, trade incentives

and coupon redemption, is estimated utilizing the most likely amount method.

Key sales terms, such as pricing and quantities

ordered, are established on a frequent basis such that most customer arrangements and related incentives have a one year or shorter duration.

As such, the Company does not capitalize contract inception costs and it capitalizes product fulfillment costs in accordance with U.S.

GAAP and its inventory policies. It generally does not receive noncash consideration for the sale of goods, nor does it grant payment

financing terms greater than one year.

Accounts Receivable

Lifeway provides credit terms to customers in-line

with industry standards and maintains allowances for potential credit losses based on historical collection experiences and the current

economic condition of specific customers. All accounts receivables have an original term of less than one year. Customer balances are

written off after all collection efforts are exhausted. Estimated product returns, which have not been material, are deducted from sales

at the time of revenue recognition. The Company does not charge interest on past due accounts receivable. Accounts receivable, less allowances

was $16,643, $15,424 and $13,875, as of December 31, 2025, 2024, and 2023 respectively.

Inventories

Inventories are stated at the lower of cost or

net realizable value, valued on a first in, first out basis (“FIFO”). The costs of finished goods inventories include raw

materials, direct labor, and overhead costs. Inventories are stated net of reserves for excess or obsolete inventory.

Property, plant and equipment

Property, plant and equipment are recorded at

cost. Depreciation and amortization are calculated using the straight-line method over the estimated useful lives of the assets as follows:

Schedule of property and equipment, estimated useful lives

Asset Useful Life

Buildings and improvements 10 – 39 years

Machinery and equipment 5 – 12 years

Office equipment 3 – 7 years

Vehicles 5 years

Leasehold improvements Shorter of expected useful life or lease term

The Company performs impairment tests when circumstances

indicate that the carrying value of an asset may not be recoverable. Expenditures for repairs and maintenance, which do not improve or

extend the life of the assets, are expensed as incurred.

Goodwill

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 it is subject

to an annual assessment for impairment, which the Company performs on its one reporting unit during the fourth quarter (as of December

31), or more frequently if events occur or circumstances change such that it is more likely than not that an impairment may exist.