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Lifeway Foods 10-K 2009 Documents found in this filing:UNITED
STATES
SECURITIES
AND EXCHANGE COMMISSION
Washington,
D.C. 20549
Form
10-K
Commission
file number: 0-17363
LIFEWAY
FOODS, INC.
(Name
of registrant as specified in its charter)
6431
West Oakton, Morton Grove, Illinois 60053
(Address
of principal executive offices) (Zip Code)
Registrant’s
telephone number:
(847)
967-1010
Securities
registered under Section 12(b) of the Exchange Act:
Common
Stock, No Par Value
Securities
registered under Section 12(g) of the Exchange Act:
None
Indicate
by check mark if the registrant is a well-known seasoned issuer, as defined in
Rule 405 of the Securities Act. Yes o No
þ
Indicate
by check mark if the registrant is not required to file reports pursuant to
Section 13 or Section 15(d) of the Act. Yes o No
þ
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 R
No £
Indicate
by check mark if disclosure of delinquent filers in response to Item 405 of
Regulation S-K (§ 229.405 of this chapter) is not contained herein, and will not
be contained, to the best of registrant’s knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form 10-K
or any amendment to this Form 10-K. o
Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting
company. See the definitions of “large accelerated filer”,
“accelerated filer” and “smaller reporting company” in Rule 12b-2 of the
Exchange Act.
Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Act). Yes o No R
The
issuer’s revenues for its most recent fiscal year were: $44,461,455.
The
aggregate market value of the voting and non-voting common equity held by
non-affiliates (approximately 4,822,576 shares) computed by reference to the
price at which the stock was sold as of March 2, 2009 ($7.65 per share as quoted
on the National Market System of the Nasdaq Stock Market) was:
$36,892,706.
The
number of shares outstanding of each of the issuer’s classes of common equity,
as of March 2, 2009 is 16,722,592 shares of Common Stock.
DOCUMENTS
INCORPORATED BY REFERENCE:
No
portions of the Notice of Annual Meeting and Proxy Statement, to be filed no
later than April 30, 2009, for the Registrant’s 2009 Annual Meeting of
Shareholders, scheduled to be held June 19, 2009, are incorporated by reference
in Part III.
LIFEWAY
FOODS, INC.
Table
of Contents
2
PART
I
CAUTIONARY
STATEMENT IDENTIFYING IMPORTANT FACTORS
THAT
COULD CAUSE THE COMPANY’S ACTUAL RESULTS TO
DIFFER
FROM THOSE PROJECTED IN FORWARD LOOKING STATEMENTS
In
connection with the “safe harbor” provisions of the Private Securities
Litigation Reform Act of 1995, readers of this document and any document
incorporated by reference herein, are advised that this document and documents
incorporated by reference into this document contain both statements of
historical facts and forward looking statements. Forward looking statements are
subject to certain risks and uncertainties, which could cause actual results to
differ materially from those indicated by the forward looking statements.
Examples of forward looking statements include, but are not limited to
(i) projections of revenues, income or loss, earnings or losses per share,
capital expenditures, dividends, capital structure and other financial items,
(ii) statements of Lifeway Foods, Inc.’s plans and objectives, including
the introduction of new products, or estimates or predictions of actions by
customers, suppliers, competitors or regulatory authorities,
(iii) statements of future economic performance, and (iv) statements
of assumptions underlying other statements and statements about Lifeway Foods,
Inc. or its business.
This
document and any documents incorporated by reference herein also identify
important factors which could cause actual results to differ materially from
those indicated by forward looking statements. These risks and uncertainties
include price competition, the decisions of customers or consumers, the actions
of competitors, changes in the pricing of commodities, the effects of government
regulation, possible delays in the introduction of new products, customer
acceptance of products and services, and other factors which are described
herein and/or in documents incorporated by reference herein.
The
cautionary statements made pursuant to the Private Litigation Securities Reform
Act of 1995 above and elsewhere by Lifeway Foods, Inc. (“Lifeway” or the
“Company”) should not be construed as exhaustive or as any admission regarding
the adequacy of disclosures made by Lifeway prior to the effective date of such
act. Forward looking statements are beyond the ability of Lifeway to control and
in many cases we cannot predict what factors would cause results to differ
materially from those indicated by the forward looking statements.
3
ITEM
1.
BUSINESS.
BUSINESS
DEVELOPMENT
Lifeway
Foods, Inc., 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 and non-dairy health food products. Lifeway’s primary
products are kefir, a drinkable dairy beverage similar to but distinct from
yogurt, in several flavors sold under the name “Lifeway Kefir” and “Helios
Nutrition Organic Kefir”; a line of various drinkable yogurts sold under the
“La Fruta”, “Tuscan” and “Lassi” brands; and “BasicsPlus,” a dairy based
immune-supporting dietary supplement beverage. The Company also produces several
soy-based kefir beverages under the “SoyTreat” trademark. In addition to the
drinkable products, Lifeway manufactures “Lifeway Farmer Cheese,” a line of
various farmer cheeses, a line of gourmet cream cheeses, and “Sweet Kiss,” a
fruit sugar-flavored spreadable cheese similar in consistency to cream cheese.
The Company also manufactures and markets a vegetable-based seasoning under the
“Golden Zesta” brand. In the Chicago metropolitan area, Lifeway distributes its
products on its own trucks and via one distributor. The Company directly
distributes its products in the Philadelphia metropolitan area using its own
truck. Lifeway
manufactures all of its products at Company-owned facilities and distributes its
products primarily throughout the United States.
SUBSIDIARY
ENTITIES
On
September 30, 1992, Lifeway formed a wholly-owned subsidiary, LFI
Enterprises, Inc. (“LFIE”), incorporated in the State of Illinois. Until
August 1, 2001, LFIE operated a “Russian” theme restaurant and supper club
facility. On August 1, 2001, Lifeway ceased operations at the facility
after condemnation proceedings were initiated by the Village of Niles, Illinois,
which sought to control the property for municipal purposes. This property was
sold in January 2003 for a capital gain of approximately
$1.2 million.
On
March 19, 2004, LFIE formed Lifeway Foods Canada, LLC, an Illinois limited
liability company (“LFC”), to serve as a holding company for prospective
operations within Canada. LFIE is the manager and sole member of
LFC.
On
July 26, 2004, Lifeway, by its subsidiary, LFIE, acquired certain assets
and inventory of Ilya’s Farms, Inc., a twelve year old, privately-held gourmet
cream cheese producer based in the Philadelphia metropolitan area. No prior
relationship existed between Ilya’s Farms, Inc. or its principal, Michael
Kofman, and either the Company or LFIE.
The total
cash purchase consideration of $575,600 for the assets and inventory of Ilya’s
Farms, Inc. was paid by LFIE in cash from Company funds without financing.
Additionally, there are certain royalty payments to be made in connection
therewith. The Company provided a guaranty of payment for the transaction. The
acquisition included approximately $64,000 of tangible assets (including certain
manufacturing equipment and a delivery truck) and inventory as well as the brand
name “Ilya’s Farms” and other trademarks and the recipes and manufacturing
processes previously used by Ilya’s Farms, Inc. The equipment acquired by LFIE
from Ilya’s Farms, Inc. was previously used to manufacture cream cheese
products. The inventory which was purchased by LFIE consisted entirely of
different varieties of cream cheese. The founder of Ilya’s Farms, Inc., Michael
Kofman, assisted LFIE over a one-month transition period and is available, if
needed, on a consulting basis going forward. Additionally, LFIE has hired the 10
employees formerly employed by Ilya’s Farms, Inc.
On
August 3, 2006, the Company acquired all of the issued and outstanding
stock of Helios Nutrition, Ltd. (“Helios”) from the stockholders of Helios for a
combination of 202,650 shares of the Company’s common stock, $2,500,000 in
cash, and a promissory note issued by the Company in favor of Amani Holdings,
LLC in the principal amount of $4,200,000.
On
February 6, 2009, the Company acquired all of the issued and outstanding stock
(the “Shares”) of Fresh Made, Inc., a Pennsylvania corporation (“Fresh”) for a
combination of $8,050,000 (less certain offsets) in cash, and a promissory note
in the principal amount of $2,735,000.00, due on February 6, 2011, 128,948
shares of common stock of Lifeway valued at a total of $980,000.00, and
cancellation of a $265,000.00 loan. In connection with such
acquisition, Lifeway also acquired 1.1355 acres of land in Philadelphia, PA (the
“Property”). The consideration for the Property was
$2,000,000.00.
BUSINESS
OF ISSUER
PRODUCTS
Lifeway’s
primary product is kefir, which, like the better-known product of yogurt, is a
fermented dairy product. Kefir has a slightly effervescent quality, with a taste
similar to yogurt and a consistency similar to buttermilk. It is a product
distinct from yogurt because it incorporates the unique microorganisms of kefir
as the cultures to ferment the milk. Lifeway’s Kefir is a drinkable product
intended for use as a breakfast meal or a snack, or as a base for lower-calorie
dressings, dips, soups or sauces. Kefir is also used as the base of Lifeway’s
plain farmer’s cheese, a cheese made without salt, sugar or animal rennet. In
addition, kefir is the primary ingredient of Lifeway’s “Sweet Kiss” product, a
fruit sugar-flavored, cream cheese-like spread which is intended to be used as a
dessert spread or frosting.
4
Kefir
contains a unique mixture of several live microorganisms and nutrients such as
proteins, minerals and vitamins. Kefir is highly digestible and, due to its
acidity and enzymes, stimulates digestion of other foods. Kefir is considered to
be the most favorable milk product for people suffering from genetically-based
lactose intolerance. A study published in the May 2003 issue of the Journal of
the American Dietetic Association suggests that kefir improves lactose digestion
and tolerance in adults with lactose maldigestion. Studies also indicate that
kefir may stimulate protein digestion and appetite, decrease the cholesterol
content in blood, improve salivation and excretion of stomach and pancreatic
enzymes and peristalsis. As compared to yogurt, many naturopathic practitioners
consider kefir to be the best remedy for digestive troubles because it has a
very low curd tension (the curd breaks up very easily into small particles). The
curd of yogurt, on the other hand, holds together or breaks into lumps. The
small size of the kefir curd facilitates digestion by presenting a large surface
area on which digestive agents may work.
Kefir is
a good source of calcium, protein, and Vitamin B-complex. In addition, because
the fermentation process produces a less sour tasting product than yogurt, less
sugar is required to make a desirable product, and the end product contains
fewer calories than regular yogurt.
Lifeway
currently sells some or all of the products listed below, except as specifically
noted, to various retail establishments including supermarkets, grocery stores,
gourmet shops, delicatessens and convenience stores.
LIFEWAY’S
KEFIR. “Lifeway’s Kefir” is a drinkable kefir product
manufactured in ten regular and low-fat varieties, including plain, pomegranate,
raspberry, blueberry, strawberry, cherry, peach, banana-strawberry, cappuccino
and vanilla, and sold in 32 ounce containers and 8 ounce single serving
containers featuring color-coded caps and labels describing nutritional
information. In March 1996, Lifeway began marketing its non-fat, low cholesterol
kefir in six flavors — plain, raspberry, strawberry, strawberry-banana,
peach and blueberry. The kefir product is currently marketed under the name
“Lifeway’s Kefir,” and is typically sold by retailers from their dairy
sections.
LIFEWAY’S ORGANIC
SOYTREAT. “SoyTreat” is a soy alternative to dairy kefir and
is made from organic soy milk, which is derived from non-genetically modified
soybeans. SoyTreat can be consumed by those who desire the benefits of kefir,
but are lactose intolerant or interested in a soy-based alternative to milk.
SoyTreat also provides 7.0g of soy protein per serving, and features the United
States Food and Drug Administration-approved health claim, “25g of soy protein a
day as part of a diet low in saturated fat can help lower cholesterol and reduce
the risk of heart disease.” At present SoyTreat is manufactured in two flavors:
strawberry and peach.
LIFEWAY’S ORGANIC
KEFIR. “Lifeway’s Organic Kefir” meets the organic standards
and specifications of the United States Department of Agriculture for organic
products and is manufactured in five flavors: plain, wildberry, raspberry,
strawberry and peach. Lifeway’s Organic Kefir is sweetened with organic cane
juice.
LIFEWAY’S
SLIM6. “Lifeway’s Slim6” is a line of low-fat kefir beverages
with no added sugar designed for consumers who follow low-carbohydrate diets.
Lifeway’s Slim6 has only 8 grams of carbohydrates and 2.5 grams of fat per
8-ounce serving and is available in five flavors: strawberries n’ cream,
mixed berry, tropical fruit, strawberry-banana and an original, unsweetened
version.
LA FRUTA DRINKABLE
YOGURT. “La Fruta” is a yogurt like drink similar to a
milkshake or smoothie that is specifically formulated to accommodate the
Hispanic market, the fastest growing demographic in the United
States. La Fruta is manufactured in six flavors: strawberry, mango,
pina colada, banana-strawberry, horchata and tres leches.
LA FRUTA
CHEESE. “La Fruta Cheese” is a cheese product similar to
cream cheese that is specifically formulated to accommodate the Hispanic market,
the fastest growing demographic in the United States. La Fruta Cheese is
manufactured in a tres leches flavor.
TUSCAN BRAND DRINKABLE
YOGURT. “Tuscan Brand Drinkable Yogurt” is a cultured dairy
beverage mainly marketed on the East Coast and manufactured in a variety of
flavors which vary depending upon distributor demand.
5
FARMER
CHEESE. “Farmer Cheese” is based on a cultured soft cheese and
is intended to be used in a variety of recipes as a low fat, low-cholesterol,
low-calorie substitute for cream cheese or ricotta, and is available in various
styles.
SWEET KISS. “Sweet
Kiss” is a sweet cheese probiotic spread available in five flavors: plain, plain
with raisins, apple, peach and chocolate.
ELITA;
BAMBINO. “Elita” and “Bambino” cheeses are low-fat,
low-cholesterol kefir based cheese spreads which are marketed as an alternative
to cream cheese.
KRESTYANSKI
TWOROG. “Krestyanski Tworog” is a European-style kefir-based
soft style cheese which can also be used in a variety of recipes, eaten with a
spoon, used as a cheese spread, or substituted in recipes for cream cheese,
ricotta cheese or cottage cheese and is marketed to consumers of various Eastern
European ethnicities.
BASICS
PLUS. “Basics Plus” is a patented kefir-based beverage product
designed to improve gastrointestinal functions, enhancing the immune system.
This product contains certain “passive immunity products” purchased from
GalaGen, Inc. prior to its 2002 bankruptcy as described elsewhere in this
report. Lifeway is currently engaged in discussion with several potential new
suppliers of passive immunity products and is not currently manufacturing this
beverage.
KEFIR
STARTER. “Kefir Starter” is a powdered form of kefir that is
sold in envelope packets and allows a consumer to make his or her own drinkable
kefir at home by adding milk. Lifeway continues to develop sales of the product
internationally and via the internet.
LASSI. “Lassi” is
a cultured drink inspired by the traditions of India. Sold in 8 ounce containers
in two flavors, strawberry and mango.
GOLDEN
ZESTA. “Golden Zesta” is a vegetable-based seasoning, which,
because of its low sodium content, may also be used as a salt substitute and is
marketed to delicatessens, gourmet shops and ethnic grocers.
IT’S
PUDDING. “It’s Pudding!” is the only organic pudding produced
in the following flavors: rice, chocolate, vanilla, banana and
tapioca.
PROBUGS. “ProBugs”
is a kefir product that contains 10 live and active kefir cultures. Aimed at
children ages 2-9, ProBugs comes in three flavors, “Sublime Slime Limetm,”
“Orange Creamy Crawlertm”
and “Goo-Berry Pietm”
and is packaged in patented no spill spout pouches designed as cartoon bug
characters Peter, Polly and Penelope ProBugtm.
HELIOS NUTRITION ORGANIC
KEFIR. “Helios Nutrition Organic Kefir” is a kefir product
made from organic milk and manufactured with a unique blend of active cultures.
It is sold in 8 and 32 ounce bottles and made in five flavors: peach, plain,
strawberry, vanilla and raspberry.
Lifeway
intends to continue to develop new products based on kefir and Farmer Cheese.
There is no assurance that such products or any other new products can be
developed successfully or marketed profitably.
DISTRIBUTION
With its
twelve company-owned trucks, Lifeway distributes its products directly and
extensively in the State of Illinois, primarily in the Chicago metropolitan
area. Lifeway also directly distributes its products in the Philadelphia and Tri
State metropolitan area.
In
addition to the Chicago and Philadelphia and Tri State metropolitan areas,
Lifeway’s products are distributed to stores throughout the United States.
Lifeway has verbal distribution arrangements with various distributors
throughout the United States. These verbal distribution arrangements, in the
opinion of Lifeway, allow management the necessary latitude to expand into new
areas and markets and establish new relationships with distributors on an
ongoing basis. Lifeway has not offered any exclusive territories to any
distributors.
6
Distributors
are provided Lifeway products at wholesale prices for distribution to their
retail accounts. Lifeway believes that the price at which its products are sold
to its distributors is competitive with the prices generally paid by
distributors for similar products in the markets served. In all areas served,
distributors currently deliver the products directly to the refrigerated cases
of dairy sections of their retail customers. Each distributor carries a line of
Lifeway’s products on its trucks, checks the retail stores for space allocated
to Lifeway’s products, determines inventory requirements of the store and places
Lifeway products directly into the retailers’ dairy cases. Lifeway believes this
method of distribution best serves the needs of each retail store, and is the
best available means to ensure consistency and quality of product handling,
quality control, flavor selection and favorable retail display. Under the
distribution arrangements, each distributor must meet certain prescribed product
handling, service and administrative requirements including, among others,
frequency of delivery, replacement of damaged, old or substandard packages, and
delivery of products directly to the refrigerated case.
Additionally,
Lifeway has attempted international distribution of certain of its products by
attempting to export to distributors operating in the Canadian provinces of
Ontario and Quebec. Lifeway’s products are subject to strict import quotas
imposed by the Trade Control Policy Division of the Department of Foreign
Affairs and International Trade of Canada. In an attempt to address this
situation, management is exploring various alternatives to permit expansion of
Lifeway’s product line in Canada. Lifeway believes that it currently is in
compliance with all applicable Canadian regulations.
MARKETING
Lifeway
continues to promote the verifiable nutritional characteristics, purity and good
taste of its kefir and kefir-based products. Lifeway primarily advertises its
products through local radio stations, which advertisements are directed to both
users and non-users of cultured milk products of all kinds. In addition, through
newspaper and magazine advertising, Lifeway provides educational information on
its products and appeals to the common perception that the products may be of
particular benefit for a wide range of ills, including intestinal disorders, and
continues to educate the public on the possible health benefits which could be
derived from the use of kefir and kefir-based products. Lifeway believes that
the potential for healthful benefits as suggested by the educational information
it has obtained properly serves as the basis for such an advertising
strategy.
In
addition to local radio stations, newspapers and magazines, Lifeway promotes
further exposure of its products through the internet, catalog advertising and
promotion, store demonstrations throughout the United States, and
participation in various trade shows. Lifeway also sponsors several different
sporting events in the Chicago metropolitan area as an additional marketing
tool.
Lifeway
does not promote products manufactured under the LaFruta and Tuscan brand names
with any marketing or advertising.
COMPETITION>
Although
Lifeway faces a small amount of direct competition in the United States and
Canadian markets for kefir products, Lifeway’s kefir-based products compete with
all other yogurt and other dairy products. Many producers of yogurt and other
dairy products are well-established and have significantly greater financial
resources than Lifeway to promote their products.
In
connection with the certain Stockholders’ Agreement, as amended, between
Lifeway, Danone Foods, Inc. and other parties, as well as certain other
transactions between these two foregoing companies described elsewhere in this
report, the parties agreed that they would not compete with each other during
the term of the Stockholders’ Agreement, as extended, with respect to certain
yogurt, cheese and kefir products. Specifically, Lifeway agreed not to produce
or sell in the United States or Western Europe any type of yogurt, fromage
frais, Italian style cheese, chilled desserts or any soy-based products, other
than those that are kefir-based or those that were already being produced and
sold by Lifeway as of December 24, 1999, and Danone agreed not to produce
or sell any type of kefir-based products in the United States. On January 15,
2009, the term of the Stockholders’ Agreement was extended to December 31,
2009.
SUPPLIERS
Lifeway
purchases its raw materials, such as milk, sugar and fruit from unaffiliated
suppliers, and is not limited or contractually bound to any supplier. Lifeway
has ready access to multiple suppliers for all of its raw materials and
packaging requirements. Prior to making any purchase, Lifeway determines which
supplier can offer the lowest price for the highest quality of product. The raw
and packaging materials purchased by Lifeway are considered commodity items and
are widely available on the open market with the exception of the licensed
ingredient in BasicsPlus. Lifeway owns and operates the means of production of
all of its products.
7
MAJOR
CUSTOMERS
Lifeway
distributes its products to numerous accounts throughout the United States.
Concentrations of credit with regard to trade accounts receivable and sales are
limited due to the fact that Lifeway’s customers are spread across different
geographic areas. The customers are concentrated in the retail food industry,
for example, Trader’s Joe’s. In 2008, Lifeway’s largest customer represented
approximately 9% of sales and reflected sales in various regions of the United
States outside the Chicago, Illinois metropolitan area.
TRANSACTIONS
WITH GROUPE DANONE SA
All share
amounts and prices in this subsection are historical and have not been adjusted
for the stock split which occurred in the first quarter of 2004 or in the second
quarter of 2006. On October 1, 1999, Lifeway and certain members of the
Smolyansky family sold shares of restricted common stock to Danone at
$10.00 per share. Later in 1999, Danone purchased additional shares of
common stock from certain individuals, including shares purchased in
transactions with certain Company affiliates, including Lifeway’s founder
Michael Smolyansky, Val Nikolenko, Vice President of Production and Pol Sikar, a
director, and his affiliates. As a result of these transactions, Danone became
the beneficial owner of 20% of the outstanding common stock of Lifeway. Pursuant
to the terms and conditions of the transaction, Lifeway granted certain limited
rights to Danone, which include a right to nominate one director, anti-dilutive
rights relating to future offerings and limited registration rights. In
addition, as described above, Lifeway and Danone are parties to a Stockholders’
Agreement dated October 1, 1999, pursuant to which the parties agreed that
they would not compete with each other through December 31, 2009 with
respect to certain yogurt, cheese and kefir products. The Stockholders’
Agreement also provides that Danone may not own more than 20% of the outstanding
common stock of Lifeway as a result of direct or indirect acquisition of shares.
Danone’s interest as of December 31, 2008 was approximately 20.7% due to
reductions in Lifeway’s shares outstanding, primarily due to share repurchases
by Lifeway. On January 15, 2009, the term of the Stockholders’ Agreement was
extended to December 31, 2009. The ability of Danone to sell such a large
stake in Lifeway could have a negative effect on the Company’s stock
price.
PATENTS,
TRADEMARKS, LICENSES, ROYALTY AGREEMENTS
All
trademark registrations have been granted by the United States Patent and
Trademark Office (“USPTO”), unless otherwise noted below. Each trademark
registration may be renewed upon expiration. Lifeway intends to make all timely
filings as required for all trademarks listed.
8
9
10
11
PATENTS,
TRADEMARKS, LICENSES, ROYALTY AGREEMENTS
Lifeway
also uses the following unregistered trademarks, and claims common law rights
to: “Elita,” “Healthy Foods Today for a Better Life Tomorrow,” “Milkshake
Smoothie,” “Toplenka,” “White Cheese,” “Drink It to Be Beautiful Inside and
Out,” “Golden Zesta” and “Pride of Main Street.”
On
December 27, 1990, Lifeway purchased the Tuscan brand-name liquid drinkable
yogurt customer list along with a limited license of the trademark and use of
the Tuscan liquid yogurt U.P.C. codes from a third party.
In
October 1998, Lifeway entered into a sublicense agreement with GalaGen, Inc. and
Metagenics, Inc. with an effective date of May 1, 1998 (“Lifeway
sublicense”), wherein GalaGen sublicensed patent rights of Metagenics for
kefir-based products containing natural immune components exclusively to
Lifeway. Under the rights granted to it by the Lifeway sublicense, Lifeway
manufactures and sells products using the Basics Plus trademark. GalaGen had
acquired the primary license for such patent rights in an agreement executed
with Metagenics in April 1998. The terms of the Lifeway sublicense provide that
Metagenics will permit Lifeway to continue to have the exclusive patent rights
to produce or sell kefir-based products containing natural immune components in
the event the original license between GalaGen and Metagenics is terminated, and
such termination was not caused by Lifeway. On February 25, 2002, GalaGen
filed a petition for bankruptcy in the Unites States Bankruptcy Court, District
of Minnesota, which terminated both its primary license with Metagenics and its
participation in the Lifeway sublicense. The license and sublicense were
excluded from the sale of assets of GalaGen pursuant to an order of the
Bankruptcy Court. Lifeway has not received any indication that Metagenics will
not permit Lifeway to continue to have the exclusive patent rights to produce or
sell kefir-based products containing natural immune components. Thus, Lifeway
believes that it continues to have the exclusive patent rights licensed directly
from Metagenics. Either party may terminate the license agreement for cause. The
term of the license agreement expires when the last valid claim of the patent
rights expires, which currently is July 2, 2013, however, this term can be
extended in accordance with the terms of the license agreement.
In
connection with the purchase of Ilya’s Farm, Inc., the Company has undertaken a
royalty obligation of 5% of all sales of Ilya’s Farm, Inc.’s products, which is
paid quarterly, in arrears.
REGULATION
Lifeway
is subject to regulation by federal, state and local governmental authorities
regarding the distribution and sale of food products. Although Lifeway believes
that it currently has all material government permits, licenses, qualifications
and approvals for its operations, there can be no assurance that Lifeway will be
able to maintain its existing licenses and permits or to obtain any future
licenses, permits, qualifications or approvals which may be required for the
operation of Lifeway’s business.
Lifeway
believes that it is currently in compliance with all applicable environmental
laws and that the cost of such compliance was not material to the financial
position of Lifeway.
In
addition, any Lifeway products exported to Canada would be subject to strict
quotas imposed by the Trade Control Policy Division of the Department of Foreign
Affairs and International Trade of Canada. Lifeway believes that it currently is
in compliance with all applicable Canadian regulations. The Company exported no
products to Canada in 2008.
RESEARCH
AND DEVELOPMENT
Lifeway
continues its program of new product development, centered around the
nutritional and “low calorie” features of its proprietary kefir
formulas.
Lifeway
conducts primarily all of its research internally, but at times will employ the
services of an outside testing facility. During 2007 and 2008, the amount
Lifeway expended for research and new product development was not material to
the financial position of Lifeway and no amount was customer
supported.
12
EMPLOYEES
Lifeway
currently employs approximately 200 employees, all of whom are full-time
employees. Substantially all of these employees are engaged in the manufacturing
of the Company’s products. None of Lifeway’s employees are covered by collective
bargaining agreements.
ITEM
1A. RISK FACTORS.
Not
applicable to smaller reporting company.
ITEM 1B. UNRESOLVED STAFF COMMENTS.
Not
applicable.
ITEM
2. PROPERTIES.
On
May 16, 1988, Lifeway purchased an approximately 26,000 square foot
parcel of real property, including an approximately 8,500 square foot
one-story brick building in good condition, located at 7625 N. Austin
Avenue, Skokie, Illinois. Lifeway uses this facility for manufacturing and
storage and has no plans to improve or renovate this property. The acquisition
loan to Lifeway from 1st National Bank of Morton Grove, collateralized by
the real estate, was refinanced in 1998 by Lifeway and paid off in full on
February 21, 2002. Lifeway is the only occupant of this property and
presently holds fee simple title free and clear of all encumbrances thereto. The
value of this property may be subject to real estate market forces that
typically affect industrial real estate in the area immediately surrounding the
property.
On
October 16, 1996, Lifeway purchased a 110,000 square foot
commercially-zoned parcel of real property, including a 46,000 square foot
one-story brick building in good condition, located at 6431 Oakton Avenue,
Morton Grove, Illinois. This property is used as Lifeway’s corporate
headquarters and main manufacturing facility. This property has been improved
every year since the time of purchase by the addition of custom-built
refrigerated storage space and the addition of various machinery and equipment
used to manufacture, package and store Lifeway’s products. Lifeway is the only
occupant of this property and presently holds fee simple title subject to a
mortgage which secures the property as collateral for the acquisition loan to
Lifeway from MB Financial Bank of Morton Grove. The acquisition loan was
refinanced in September 2006 at a rate of 7% and is payable in monthly principal
and interest installments of $3,273, with a balloon payment of $416,825 due in
September 2011. At December 31, 2008, the loan had a balance of $438,926.
The value of this property may be subject to real estate market forces that
typically affect industrial real estate in the area immediately surrounding the
property.
In June
2005, the Company purchased a 100,000-square-foot distribution and warehousing
facility that is equipped with 40,000 square feet of refrigeration. The
facility, located at 6101 Gross Point Road in Niles, Illinois, will be used to
store raw materials and finished goods in order to relieve space pressures at
the Company’s existing 50,000-square foot building, less than a mile away. The
additional space at the Company’s main plant will be used to expand production
capacity for the Company’s kefir and other probiotic products. Lifeway is the
only occupant of this property and presently holds fee simple title subject to a
mortgage which secures the property as collateral for the acquisition loan to
Lifeway from Harris Bank at a rate of 5.6% and is payable in monthly principal
and interest installments of $19,513 with a balloon payment of $2,652,142.70 due
July 14, 2010. At December 31, 2008, the loan had a balance of
$2,760,288. The value of this property may be subject to real estate market
forces that typically affect industrial real estate in the area immediately
surrounding the property.
Included
in the purchase of Pride of Main Street Dairy on August 3, 2006, Lifeway
acquired an approximately 35,000 square foot commercially zoned parcel of
real estate located at 214 Main Street S. Sauk Centre, MN, including a
16,000 square foot two-story brick building used for production, and a
5,600 square foot storage facility. This property is used as the main
headquarters and main production facility for Pride of Main Street Dairy. The
building was built in the 1920’s with an addition in 1990. The facility is being
used to produce all of the Pride of Main Street Dairy products, and
approximately 70% of the Helios Nutrition Organic Kefir, with the remaining 30%
being produced in Lifeway’s main production facility in Morton Grove, Illinois.
Pride of Main Street is the only occupier of this property and presently holds
fee simple title free and clear of all encumbrances thereto. The value of this
property may be subject to real estate market forces that typically affect
industrial real estate in the area immediately surrounding the property.
13
On
February 6, 2009, in connection with the Company’s acquistion of Fresh Made,
Inc., a Pennsylvania corporation, Lifeway also acquired 1.1355 acres of land in
Philadelphia, PA (the “Property”). The consideration for the Property
was $2,000,000.00. Fresh Made is the only occupier of this property. The
Company holds fee simple title free and clear of all encumbrances other than
that certain mortgage securing indebtedness due to the seller’s and incurred in
connection with its acquisition.
For
financial statement and tax purposes, Lifeway depreciates its buildings and
improvements on a straight line basis over 31 and 39 years.
Management
believes that Lifeway has adequate insurance coverage for all its
properties.
ITEM 3. LEGAL
PROCEEDINGS.>
Lifeway
is from time to time engaged in litigation matters arising in the ordinary
course of business none of which presently is expected to have a material
adverse effect on its business results or operations.
ITEM
4. SUBMISSION OF
MATTERS TO A VOTE OF SECURITY HOLDERS.
No matter
was submitted during the fourth quarter of the fiscal year ended December 31,
2008, to a vote of security holders through the solicitation of proxies or
otherwise.
PART
II
ITEM
5. MARKET FOR
REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF
EQUITY SECURITIES.
MARKET
INFORMATION
Lifeway’s
Common Stock, no par value, the only class of common equity of Lifeway, is
traded on The Nasdaq Stock Market National Market System under the symbol
“LWAY.” Trading commenced on March 29, 1988.
The range
of high and low bid quotations for Lifeway’s Common Stock for the quarterly
periods within the two most recent fiscal years, as reported by The Nasdaq Stock
Market National Market System, is set forth in the following table:
Note: The
foregoing quotations have been adjusted for the August 14, 2006 two-for-one
company stock split.
As of
March 2, 2009, there were approximately 88 holders of record of Lifeway’s Common
Stock. The Company has no information regarding beneficial owners whose shares
are held in street name.
DIVIDENDS
Lifeway
has paid no cash dividends on its Common Stock since inception and management
does not anticipate that such dividends will be paid in the foreseeable
future.
14
SALES
OF UNREGISTERED SECURITIES
There
were no sales of unregistered securities in 2008.
PURCHASES
OF THE COMPANY’S SECURITIES
*
Pursuant to the share repurchase program approved on December 17, 2007 for
100,000 split adjusted shares with a plan expiration date of one
year.
**
Pursuant to
the share repurchase
program approved November 20, 2008 for 100,000
split adjusted shares with a plan expiration date of one year. As of
the date of this filing, Lifeway has repurchased an
additional 15,195 shares of
the Company’s
securities in 2009 pursuant to this program at a total cost of
$101,628.31.
EQUITY
COMPENSATION PLAN INFORMATION
See Part III, Item 12, Security
Ownership of Certain Beneficial Owners and Management and Related Stockholder
Matters, of this Annual Report on Form 10-K for information regarding securities
authorized for issuance under our equity compensation plans.
15
ITEM
6. SELECTED FINANCIAL
DATA.
Not
applicable to smaller reporting company.
ITEM
7. MANAGEMENT’S
DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS .
RESULTS
OF OPERATIONS
The following analysis should be read in
conjunction with the audited financial statements of the Company and related
notes included elsewhere in this annual report and the unaudited financial
statements and Management’s Discussion and Analysis contained in our Form
10-QSB, for the fiscal quarters ended March 31, 2008, June 30, 2008, and
September 30, 2008.
Comparison
of Quarter Ended December 31, 2008 to Quarter Ended December 31,
2007
Sales
increased by $401,371, (approximately 4%) to $10,575,543 during the three month
period ended December 31, 2008 from $10,174,172 during the same three month
period in 2007. This increase is primarily attributable to increased sales and
awareness of Lifeway’s flagship product, Kefir and Probugs, Lifeway’s organic
kids oriented Kefir. The company’s flagship brand Lifeway, grew 8% in
the fourth quarter 2008 when compared to the same quarter in
2007. The company’s Helios Organic Kefir brand, which was acquired in
August 2006, saw a decline in sales of $153,000 from $1,043,000 in the fourth
quarter 2007 to $890,000 in the same period in 2008 or a decrease of
14.6%. The decrease is primarily attributable to the decline in
demand of higher cost, premium organic products as well as an overall slowdown
in demand associated with retailers who primarily sell these
products. We believe that this slowdown in this premium priced food
segment is temporary as macro economic conditions improve.
Cost of
goods sold as a percentage of sales was approximately 82% during the fourth
quarter 2008, compared to about 77% during the same period in 2007. This
increase is primarily attributable to the increase in labor costs as well as the
costs of packaging supplies and transportation expenses. During the
fourth quarter 2008, oil related production supplies and fuel surcharges on
product deliveries remained at higher levels when compared to the same period
2007, but have subsequently begun to decrease as the price of oil has decreased
since the record highs experienced in August and September
2008. Historically, there is a several month lag when material
suppliers institute price decreases based on the declining costs of the
underlying materials. Additionally, as part of Lifeway’s growth
strategy, the company increased its product sampling and demonstration
activities, couponing, and other promotional initiatives in the fourth quarter
2008, when compared to the same period in 2007, which has an impact on cost of
goods sold. During the fourth quarter 2008, the company also created
a reserve account for these types of promotional expenses off invoice in the
amount $75,000 that did not exist in the fourth quarter 2007.
Even
though the cost of conventional milk was lower in the fourth quarter 2008
compared to the same period a year ago, the cost of organic milk and other
organic raw material ingredients increased approximately 10% during this same
period. In the fourth quarter 2008, amount of organic products sold
comprised approximately 30% of Lifeway’s total sales. These products
include Lifeway’s Organic Kefir, Lifeway’s Organic ProBugs kids Kefir, and
Lifeway’s Helios Organic Kefir lines.
Operating expenses as a percentage of
sales was approximately 19% during the fourth quarter, 2008, compared to about
20% during the same period in 2007. This decrease is primarily
attributable to a decrease in selling related expenses and operating synergies
gained by the consolidation of the 2006 Helios Nutrition acquisition into our
overall operations, as well as our continuing efforts to maximize efficiency
through capital investments. Even though there were substantial
professional fees and expenses paid in the fourth quarter, 2008 related to the
February 6, 2009 acquisition of Fresh Made, Inc., we were able to lower the
overall operating expenses as a percentage of sales during the fourth quarter,
2008, when compared to the same period a year ago.
Total other expenses for the
fourth quarter 2008 were $1,252,744, compared with total other expenses of
$91,373 during the same period in 2007. This increase is primarily
attributable to a higher realized loss on the sale of marketable securities in
2008, when compared to the same period in 2007. During the fourth
quarter 2008, the company realized losses in the amount of $587,243 and
recognized an impairment to marketable securities in the amount of
$687,971. During the fourth quarter 2007, the company realized losses
in the amount of $123,799. Marketable securities are discussed in
Note 4 of the Notes to Consolidated Financial Statements.
Total net loss for the group was
$742,965, or $.04 per split adjusted share for the fourth quarter, 2008,
compared with $153,109, or $.01 per split adjusted share in the same period in
2007.
Comparison
of Year Ended December 31, 2008 to Year Ended December 31, 2007
Sales
increased by $5,732,299 (approximately 15%) to $44,461,455 during the twelve
month period ended December 31, 2008 from $38,729,156 during the same twelve
month period in 2007. This increase is primarily attributable to
increased sales and awareness of Lifeway’s flagship product, Kefir and Probugs,
Lifeway’s organic kids oriented Kefir. The company’s flagship brand,
Lifeway Kefir grew approximately 17% in 2008 when compared to
2007. Included in that figure is Lifeway Probugs Organic Kefir, which
increased sales 124% to $1,760,254 in 2008 compared to sales of $786,326 in
2007. In 2008, the Helios Kefir brand generated revenues of
$4,482,848, compared to 2007 revenues of $4,563,026.
16
Cost of
goods sold as a percentage of sales excluding depreciation expense was
approximately 70% in 2008, compared to about 66% in 2007. This
increase is primarily attributable to the increase in labor costs as well as the
costs of packaging supplies and transportation expenses. During the
2008, oil related production supplies and fuel surcharges on product deliveries
remained at higher levels when compared to 2007, but have subsequently begun to
decrease as the price of oil has decreased since the record
highs experienced in August and September 2008. Historically,
there is a several month lag when material suppliers institute price decreases
based on the declining costs of the underlying
materials. Additionally, as part of Lifeway’s growth strategy, the
company increased its product sampling and demonstration activities, couponing,
and other promotional initiatives in the fourth quarter 2008, when compared to
the same period in 2007, which has an impact on cost of goods
sold. During the fourth quarter 2008, the company also created a
reserve account for these types of promotional expenses off invoice in the
amount $75,000 that did not exist in the fourth quarter 2007. Milk
prices on average were similar as a whole in 2008 when compared to
2007.
Operating expenses as a percentage of
sales was approximately 19% in 2008, compared to about 20% in
2007. This decrease is primarily attributable to an increase in
sales, a decrease in selling related expenses and operating synergies gained by
the consolidation of the 2006 Helios Nutrition acquisition into our overall
operations, as well as our continuing efforts to maximize efficiency through
capital investments. Even though there were substantial professional
fees and expenses related to the February 6, 2009 acquisition of Fresh Made,
Inc. paid in the fourth quarter 2008, we were able to lower the overall
operating expenses as a percentage of sales during the fourth quarter 2008, when
compared to the same period a year ago.
Total
other expenses for 2008 were $1,598,930, compared with total other income of
$528,150 during the same period in 2007. This increase in expenses is
primarily attributable to a higher realized loss on the sale of marketable
securities in 2008, when compared to the same period in 2007. During
2008, the company realized losses in the amount of $733,647 and recognized an
impairment to marketable securities in the amount of $958,879. During
2007, the company realized gains in the amount of
$539,739. Marketable securities are discussed in Note 4 of the notes
to the financial statements.
Provision
for income taxes was $679,789, or a 26% tax rate in 2008 compared with
$1,812,539 or a 37% tax rate in 2007. Income taxes are discussed in Note 9 of
the Notes to Consolidated Financial Statements.
Total net
income for the group was $1,912,275, or $.11 per split adjusted share for the
twelve months ended December 31, 2008, compared with $3,152,660, or $.19 per
split adjusted share in the same period in 2007.
SOURCES
AND USES OF CASH IN 2008
Net cash
provided by operating activities was $4,733,660 during the twelve months ended
December 31, 2008, which is an increase of $2,386,523 compared to $2,347,137 of
net cash provided by operating activities the same period in
2007. This increase in cash provided by operating activities is
primarily due to a $1,393,370 swing in the impact inventories had on cash
flows as of December 31, 2008, from the same period in 2007.
Net cash
used in investing activities was $2,616,344 during the twelve months ended
December 31, 2008, which is an increase of $1,715,014 compared to the same
period in 2007. This increase is primarily due to the Company’s sale
of $7,168,246 of marketable securities during 2007 compared to selling
$5,323,423 of marketable securities during 2008, therefore generating more cash
by selling investments in 2007. The company also used $2,157,315 to
purchase machinery and equipment in 2008 compared with using $1,824,879 to
purchase machinery and equipment in 2007. The Company has no additional capital
expenditures outside the ordinary course of business.
Net cash
used in financing activities was $2,435,953 during the twelve months ended
December 31, 2008, which is an increase of $38,219 compared to $2,397,734
of net cash used in financing activities during the same period in
2007. This increase is primarily attributable to the Company’s
repurchase of $1,239,488 of treasury shares during 2007, compared with the
Company’s repurchase of $752,603 of treasury shares during 2007.
A
significant portion of our assets are held in marketable securities. All of our
marketable securities are classified as available-for-sale on our balance sheet,
while the mortgage-backed securities are classified as trading. All of these
securities are stated thereon at market value as of the end of the applicable
period. Gains and losses on the portfolio are determined by the specific
identification method.
We
anticipate being able to fund the Company’s foreseeable liquidity requirements
internally. Other than the February 6, 2009 acquisition of Fresh Made, Inc., we
know of no trend, demand or event which would negatively affect liquidity in
2009. We continue to explore potential acquisition opportunities in our industry
in order to boost sales while leveraging our distribution system to consolidate
and lower costs.
Other
Developments
On June
13, 2008, Lifeway’s Board of Directors approved awards of an aggregate amount
of 10,500 shares to be awarded under its Employee and Consulting Services
and Compensation Plan to certain key employees and consultants for services
rendered to the Company. The stock awards were made on June 13,
2008 and have vesting periods of one year. The expense for the awards is
measured as of July 1, 2007 at $11.87 per share for 10,500 shares, or
a total stock award expense of $124,635. This expense will be recognized as the
stock awards vest in 12 equal portions of $10,386, or 875 shares per month
for one year.
On May
18, 2007, Lifeway’s Board of Directors approved awards of an aggregate amount of
8,400 shares to be awarded under its Employee and Consulting Services and
Compensation Plan to certain employees and consultants for services rendered to
the Company. The stock awards were made on June 1, 2007 and have vesting periods
of one year. The expense for the awards is measured as of June 1, 2007 at $9.90
per share for 8,400 shares, or a total stock award expense of $83,160. This
expense will be recognized as the stock awards vest in 12 equal portions of
$6,930, or 700 shares per month for one year.
As stated, the Company acquired Fresh Made, Inc. on February 6, 2009.
This acquisition will affect the Company’s sales and operating income as the
Fresh Made operations are fully assimilated into the Company’s
operations.
17
Off-Balance
Sheet Arrangements
We have
never entered into any off-balance sheet financing arrangements and have never
established any special purpose entities. We have not guaranteed any debt or
commitments of other entities or entered into any options on non-financial
assets.
Critical
Accounting Policies
Lifeway’s
analysis and discussion of its financial condition and results of operations are
based upon its consolidated financial statements that have been prepared in
accordance with accounting principles generally accepted in the United States of
America (“US GAAP”). The preparation of financial statements in accordance with
US GAAP requires management to make estimates and assumptions that affect the
reported amounts of assets, liabilities, revenues and expenses. US GAAP provides
the framework from which to make these estimates, assumptions and disclosures.
Lifeway chooses accounting policies within US GAAP that management believes are
appropriate to accurately and fairly report Lifeway’s operating results and
financial position in a consistent manner. Management regularly assesses these
policies in light of current and forecasted economic conditions and has
discussed the development
and selection of critical accounting policies with its audit committee of the
Board of Directors. For further information concerning accounting policies,
refer to Note 2 — Nature of Business and Significant Accounting Policies in the
notes to the consolidated financial statements.
Subsequent Events
On
February 6, 2009, Lifeway Foods, Inc., a Illinois corporation (“Lifeway”)
entered into and consummated a Stock Purchase Agreement (the “Stock Agreement”)
by and among Lifeway, Ilya Mandel, an individual and Michael Edelson, an
individual (each a “Seller” and collectively “Sellers”).
Upon the
terms and subject to the conditions set forth in the Stock Agreement, Lifeway
purchased from Sellers all of the issued and outstanding stock (the “Shares”) of
Fresh Made, Inc., a Pennsylvania corporation (“Fresh”). The
consideration for the Shares was an aggregate of $8,050,000, less certain
offsets for any selling expenses in excess of certain limits set forth in the
Stock Agreement and other payments and funded debt all as set forth in the Stock
Agreement, a note in the principal amount of $2,735,000, due on February 6,
2011, 128,948 shares of common stock of Lifeway valued at a total of $980,000
(“Lifeway’s Common Stock”), the cancellation of a loan in the principal amount
of $265,000 and not more than $98,000 in funds held in Fresh’s two accounts with
Vist Financial Corp. The issuance of Lifeway’s Common Stock was
exempted from registration pursuant to Section 4(2) of the Securities Act of
1933, as amended.
Also on
February 6, 2009, Lifeway entered into and consummated a Real Property Purchase
Agreement (the “Real Property Agreement”) by and among Sellers and
Lifeway. Pursuant to the Real Property Agreement, Lifeway acquired
1.1355 acres of land in Philadelphia, PA (the “Property”) from
Sellers. The consideration for the Property was
$2,000,000.
Recent Accounting Pronouncements
In
December 2007, the FASB issued SFAS No. 141(R) “Business
Combinations.” SFAS No. 141(R) states that all business combinations
(whether full, partial or step acquisitions) will result in all assets and
liabilities of an acquired business being recorded at their acquisition date
fair values. Earn-outs and other forms of contingent consideration
and certain acquired contingencies will also be recorded at fair value at the
acquisition date. SFAS No. 141(R) also states acquisition costs will
generally be expensed as incurred; in-process research and development will be
recorded at fair value as an indefinite-lived intangible asset at the
acquisition date; changes in deferred tax asset valuation allowances and income
tax uncertainties after the acquisition date generally will affect income tax
expense; and restructuring costs will be expensed in periods after the
acquisition date. This statement is effective for financial
statements issued for fiscal years beginning after December 15,
2008. The Company will apply the provisions of this standard to any
acquisitions that it completes on or after December 15, 2008.
18
Forward
Looking Statements
In this
report, in reports subsequently filed by Lifeway with the SEC on Form 10-QSB and
filed or furnished on Form 8-K, and in related comments by management, our use
of the words “believe,” “expect,” “anticipate,” “estimate,” “forecast,”
“objective,” “plan,” “goal,” “project,” “explore,” “priorities/targets,” and
similar expressions is intended to identify forward-looking statements. While
these statements represent our current judgment on what the future may hold, and
we believe these judgments are reasonable, actual results may differ materially
due to numerous important factors that are described in this report and other
factors that may be described in subsequent reports which Lifeway may file with
the SEC on Form 10-QSB and filed or furnished on Form 8-K, including but not
limited to:
ITEM 7A. QUANTITATIVE AND
QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
Not
applicable to smaller reporting company.
The
annotated consolidated financial statements of the Company that constitute
Item 8 of this report commence on the pages that follow this
page.
19
REPORT
OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the
Shareholders of
LIFEWAY
FOODS, INC. AND SUBSIDIARIES
We have
audited the accompanying consolidated balance sheets of LIFEWAY FOODS, INC. AND
SUBSIDIARIES (the “Company”) as of December 31, 2008 and 2007, and the related
consolidated statements of income and comprehensive income, changes in
stockholders’ equity, and cash flows for each of the two years in the period
ended December 31, 2008. These financial statements are the
responsibility of the Company’s management. Our responsibility is to
express an opinion on these financial statements based on our
audits.
We
conducted our audit in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require
that we plan and perform the audit to obtain reasonable assurance about whether
the financial statements are free of material misstatement. The
Company is not required to have, nor were we engaged to perform, an audit of its
internal control over financial reporting. Our audit included
consideration of internal control over financial reporting as a basis for
designing audit procedures that are appropriate in the circumstances, 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. An audit also includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting
principles used and significant estimates made by management, as well as
evaluating the overall financial statement presentation. We believe
that our audits provide a reasonable basis for our opinion.
In our
opinion, the consolidated financial statements referred to above present fairly,
in all material respects, the financial position of LIFEWAY FOODS, INC. AND
SUBSIDIARIES as of December 31, 2008 and 2007, and the results of its operations
and its cash flows for each of the two years in the period ended December 31,
2008 in conformity with accounting principles generally accepted in the United
States of America.
Plante
& Moran, PLLC
Grand
Rapids, MI
March 31,
2009
20
LIFEWAY
FOODS, INC. AND SUBSIDIARIES
Consolidated
Statements of Financial Condition
December
31, 2008 and 2007
See
accompanying notes to financial statements 21
LIFEWAY
FOODS, INC. AND SUBSIDIARIES
Consolidated
Statements of Income and Comprehensive Income
For
the Years Ended December 31, 2008 and 2007
See
accompanying notes to financial statements 22
LIFEWAY
FOODS, INC. AND SUBSIDIARIES
Consolidated
Statements of Changes in Stockholders’ Equity
For
the Years Ended December 31, 2008 and 2007
See
accompanying notes to financial statements 23
LIFEWAY
FOODS, INC. AND SUBSIDIARIES
Consolidated
Statements of Cash Flows
For
the Years Ended December 31, 2008 and 2007
See
accompanying notes to financial statements 24
LIFEWAY
FOODS, INC. AND SUBSIDIARIES
Notes
to Consolidated Financial Statements
December
31, 2008 and 2007
Note
1 – NATURE OF BUSINESS
Lifeway
Foods, Inc. (The “Company”) commenced operations in February 1986 and
incorporated under the laws of the state of Illinois on May 19, 1986. The
Company’s principal business activity is the production of dairy products.
Specifically, the Company produces Kefir, a drinkable product which is similar
to but distinct from yogurt, in several flavors sold under the name “Lifeway’s
Kefir;” a plain farmer’s cheese sold under the name “Lifeway’s Farmer’s Cheese;”
a fruit sugar-flavored product similar in consistency to cream cheese sold under
the name of “Sweet Kiss;” and a dairy beverage, similar to Kefir, with increased
protein and calcium, sold under the name “Basics Plus.” The Company
also produces several soy-based products under the name “Soy Treat” and a
vegetable-based seasoning under the name “Golden Zesta.” The Company currently
distributes its products throughout the Chicago Metropolitan area and various
cities in the East Coast through local food stores. In addition, the
products are sold throughout the United States and Ontario, Canada by
distributors. The Company also distributes some of its products to Eastern
Europe.
Note
2 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
A summary
of the significant accounting policies applied in the preparation of the
accompanying financial statements follows:
Principles of
consolidation
The
consolidated financial statements include the accounts of the Company and its
wholly-owned subsidiaries, LFI Enterprises, Inc., Helios Nutrition, Ltd., Pride
of Main Street, L.L.C. and Starfruit, L.L.C. All significant
intercompany accounts and transactions have been eliminated.
Use of
estimates
The
preparation of financial statements in conformity with accounting principles
generally accepted in the United States of America requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements and reported amounts of revenues and expenses during
the reporting period. Actual results could differ from those
estimates. Significant estimates made in preparing the consolidated
financial statements include the allowance for doubtful accounts, the valuation
of goodwill, intangible assets and deferred taxes.
Revenue
Recognition
Sales
represent sales of Company produced dairy products that are recorded at the time
of shipment and the following four criteria have been met: (i) The
product has been shipped and the Company has no significant remaining
obligations; (ii) Persuasive evidence of an agreement exists;
(iii) The price to the buyer is fixed or determinable and
(iv) Collection is probable. In addition, shipping costs
invoiced to the customers are included in net sales and the related cost in cost
of sales.
Cash and cash
equivalents
All
highly liquid investments purchased with an original maturity of three months or
less are considered to be cash equivalents.
The
Company maintains cash deposits at several institutions located in the greater
Chicago, Illinois and Philadelphia, Pennsylvania metropolitan
areas.
25
LIFEWAY
FOODS, INC. AND SUBSIDIARIES
Notes
to Consolidated Financial Statements
December
31, 2008 and 2007
Note
2 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - Continued
Gross
bank balances, not including outstanding checks, of amounts reported by
financial institutions are categorized as follows:
Marketable
securities
All
investment securities are classified as available-for-sale, and are carried at
fair value or quoted market prices. Unrealized gains and losses on
available-for-sale securities are reported as a separate component of
stockholders’ equity, net of tax. Amortization, accretion, interest and
dividends, realized gains and losses, and declines in value judged to be
other-than-temporary on available-for-sale securities are recorded in other
income. All of the Company’s securities are subject to a periodic impairment
evaluation. This evaluation depends on the specific facts and circumstances.
Factors that we consider in determining whether an other-than-temporary decline
in value has occurred include: the size and duration of the decline; the
financial condition of the investee; and the intent and ability to retain the
investment for a sufficient period of time to allow for possible recovery in the
market value of the investment.
Accounts
receivable
Credit
terms are extended to customers in the normal course of business. The
Company performs ongoing credit evaluations of its customers’ financial
condition and generally requires no collateral.
Accounts
receivable are recorded at invoice amounts, and reduced to their estimated net
realizable value by recognition of an allowance for doubtful
accounts. The Company’s estimate of the allowance for doubtful
accounts is based upon historical experience, its evaluation of the current
status of specific receivables, and unusual circumstances, if
any. Accounts are considered past due if payment is not made on a
timely basis in accordance with the Company’s credit terms. Accounts
considered uncollectible are charged against the allowance.
Inventories
Inventories
are stated at the lower of cost or market, cost being determined by the
first-in, first-out method.
Property and
equipment
Property
and equipment are stated at depreciated cost or fair value where depreciated
cost is not recoverable. Depreciation is computed using the
straight-line method. When assets are retired or otherwise disposed
of, the cost and related accumulated depreciation are removed from the accounts,
and any resulting gain or loss is recognized in income for the
period. The cost of maintenance and repairs is charged to income as
incurred; significant renewals and betterments are capitalized.
26
LIFEWAY
FOODS, INC. AND SUBSIDIARIES
Notes
to Consolidated Financial Statements
December
31, 2008 and 2007
Note
2 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES – Continued
Property
and equipment are being depreciated over the following useful
lives:
Intangible
assets
The
Company accounts for intangible assets at historical cost. Intangible
assets acquired in a business combination are recorded under the purchase method
of accounting at their estimated fair values at the date of
acquisition. Goodwill represents the excess purchase price over the
fair value of the net tangible and other intangible assets
acquired. Goodwill is not amortized and is reviewed for impairment at
least annually. The Company amortizes other intangible assets over
their estimated useful lives, as disclosed in the table below.
The
Company reviews intangible assets and their related useful lives at least once a
year to determine if any adverse conditions exist that would indicate the
carrying value of these assets may not be recoverable. The
Company conducts more frequent impairment assessments if certain conditions
exist, including: a change in the competitive landscape, any internal
decisions to pursue new or different strategies, a loss of a significant
customer, or a significant change in the market place including changes in the
prices paid for the Company’s products or changes in the size of the market for
the Company’s products.
If the
estimate of an intangible asset’s remaining useful life is changed, the
remaining carrying amount of the intangible asset is amortized prospectively
over the revised remaining useful life.
Intangible
assets are being amortized over the following useful lives:
27
LIFEWAY
FOODS, INC. AND SUBSIDIARIES
Notes
to Consolidated Financial Statements
December
31, 2008 and 2007
Note
2 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES – Continued
Income
taxes
Deferred
income taxes arise from temporary differences resulting from income and expense
items reported for financial accounting and tax purposes in different periods.
Deferred taxes are classified as current or non-current, depending on the
classification of the assets and liabilities to which they
relate. Deferred taxes arising from temporary differences that are
not related to an asset or liability are classified as current or non-current
depending on the periods in which the temporary differences are expected to
reverse.
The
principal sources of temporary differences are different depreciation and
amortization methods for financial statement and tax purposes, unrealized gains
or losses related to marketable securities, capitalization of indirect costs for
tax purposes, and the recognition of an allowance for doubtful accounts for
financial statement purposes.
As of
January 1, 2007, the Company adopted FASB Interpretation No. 48,
“Accounting for Uncertainty in Income Taxes — an interpretation of FASB
Statement No. 109” (FIN 48), which clarifies the accounting and disclosure
for uncertainty in tax positions, as defined. Pursuant to FIN 48, the Company
has analyzed filing positions in all of the federal and state jurisdictions
where it is required to file income tax returns, as well as all open tax years
in these jurisdictions. The only periods subject to examination for the
Company’s federal return are the 2004 through 2007 tax years. The Company
believes that its income tax filing positions and deductions would be sustained
on audit and does not anticipate any adjustments that would result in a material
change to its financial position. Therefore, no reserves for uncertain income
tax positions have been recorded pursuant to FIN 48. In addition, the Company
did not record a cumulative effect adjustment related to the adoption of FIN
48.
The
Company’s policy for recording interest and penalties associated with audits is
to record such items as a component of income before taxes. There were no such
items during the periods covered in this report.
Treasury
stock
Treasury
stock is recorded using the cost method.
Advertising
costs
The
Company expenses advertising costs as incurred. During the year ended
December 31, 2008 and 2007, approximately $1,530,207 and $1,642,114 of such
costs respectively, were expensed.
Earning per common
share
Earnings
per common share were computed by dividing net income available to common
stockholders by the weighted average number of common shares outstanding during
the period. For the year ended December 31, 2008 and 2007, diluted
and basic earnings per share were the same, as the effect of dilutive securities
options outstanding was not significant.
28
LIFEWAY
FOODS, INC. AND SUBSIDIARIES
Notes
to Consolidated Financial Statements
December
31, 2008 and 2007
Note
3 – INTANGIBLE ASSETS
Intangible
assets, and the related accumulated amortization, consist of the
following:
Amortization
expense is expected to be as follows for the years ending December
31:
Amortization
expense during the years ended December 31, 2008 and 2007 was $319,446 and
$323,266, respectively.
Note
4 – MARKETABLE SECURITIES
The cost
and fair value of marketable securities classified as available for sale are as
follows:
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