MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

Management's Discussion and Analysis of Financial Condition and Results of Operations ("MD&A") in this Form 10-Q is provided as a supplement to, and should be read in conjunction with, our audited consolidated financial statements, the accompanying notes, and the MD&A included in our Annual Report on Form 10-K for the fiscal year ended December 31, 2025 (the "Form 10-K"). Unless otherwise specified, any description of "our", "we", and "us" in this MD&A refer to Lifeway Foods, Inc. ("Lifeway") and our wholly-owned subsidiaries.

Cautionary Statement Regarding Forward-Looking Statements

In addition to historical information, this quarterly report contains "forward-looking" statements within the meaning of the "safe harbor" provisions of the Private Securities Litigation Reform Act of 1995. These statements may be identified by the use of words such as "anticipate," "from time to time," "intend," "plan," "ongoing," "realize," "should," "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," "predict," and "estimate," and similar terms or terminology, or the negative of such terms or other comparable terminology. Examples of forward-looking statements include, among others, statements we make regarding:

	·	Expectations of the effect on our financial condition of claims, litigation, environmental costs, contingent liabilities and governmental and regulatory investigations and proceedings, if any;
	·	Strategy for acquisitions, customer retention, growth, product development, market position, financial results and reserves;
	·	Estimates of the amounts of sales allowances and discounts to our customers and consumers;
	·	Our belief that we will maintain compliance with our loan agreements and have sufficient liquidity to fund our business operations.

Forward looking statements are based on management's beliefs, assumptions, estimates and observations of future events based on information available to our management at the time the statements are made and include any statements that do not relate to any historical or current fact. These statements are not guarantees of future performance and they involve certain risks, uncertainties and assumptions that are difficult to predict. Actual outcomes and results may differ materially from what is expressed, implied or forecast by our forward-looking statements due in part to the risks, uncertainties, and assumptions that include:

	·	Changes in the pricing of commodities;
	·	The actions and decisions of our competitors and customers, including those related to price competition;
	·	Our ability to successfully implement our business strategy;
	·	The effects of government regulation;
	·	Disruptions to our supply chain, or our manufacturing and distribution capabilities, including those due to cybersecurity threats, labor shortages or disputes, union organizing activities, financial liquidity, inclement weather, natural disasters, terrorism, geopolitical tensions, supply constraints, and general economic and political conditions;
	·	Adverse economic conditions in the United States, our primary market, or any of the other jurisdictions in which we conduct significant business in the future, and resultant changes in consumer spending; and
	·	Such other factors as discussed throughout Part I, Item 1 "Business"; Part I, Item 1A "Risk Factors"; and Part II, Item 7 "Management's Discussion and Analysis of Financial Condition and Results of Operations" of our Annual Report on Form 10-K for the year ended December 31, 2025, Part II, Item 1A of this Form 10-Q and that are described from time to time in our other periodic reports filed with the SEC.

These factors are not necessarily all of the important factors that could cause actual results to differ materially from those expressed in any of our forward-looking statements. Other unknown or unpredictable factors could also have material adverse effects on future results. The Company intends these forward-looking statements to speak only at the date made. Except as otherwise required to be disclosed in periodic reports required to be filed by public companies with the SEC pursuant to the SEC's rules, Lifeway has no duty to update these statements, and it undertakes no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.

Business Overview

Lifeway was founded in 1986 by Michael Smolyansky, ten years after he and his family emigrated from Eastern Europe to the United States. Lifeway was the first to successfully introduce kefir to the U.S. consumer on a commercial scale, initially catering to ethnic consumers in the Chicago, Illinois metropolitan area. Lifeway has grown to become the largest producer and marketer of kefir in the U.S. and an important player in the broader market spaces of probiotic-based products and natural, "better for you" foods.

Our primary product is drinkable kefir, a cultured dairy product. Lifeway Kefir is tart and tangy, high in protein, calcium and vitamin D. The Company manufactures (directly or through a co-manufacturer) and markets products under the Lifeway, Fresh Made, and GlenOaks Farms brand names, as well as under private labels on behalf of certain customers.

The Company's product categories are:

	·	Drinkable Kefir, a cultured dairy product sold in a variety of organic and non-organic sizes, flavors, and types.
	·	European-style soft cheeses, including farmer cheese, white cheese, and Sweet Kiss.
	·	Cream and other, which primarily consists of cream, a byproduct of raw milk processing.
	·	Drinkable Yogurt, sold in a variety of sizes and flavors.
	·	Other Dairy, which primarily consists of butter and sour cream.

Business Trends

Input Cost and Current Macroeconomic Environment:

During the second quarter of 2026 we experienced significant increases in our raw material input costs, which continued into the third quarter. A key input in our manufacturing process is Class II conventional milk. During the second quarter of 2026 we experienced an increase of approximately 26% in the cost of Class II conventional milk as compared to the first quarter of 2026. While the cost of our Class II conventional milk decreased minimally in the third quarter of 2026 as compared to the second quarter of 2026, we currently anticipate our average price per pound for conventional milk will be higher in the fourth quarter as compared to the third quarter of 2026.

In addition, the elevated costs we experienced in the second quarter of 2026 of resin-based packaging such as bottles and caps, as well as ingredients and transportation costs continued during the third quarter of 2026, and we currently expect the price of these inputs will continue at elevated levels during the fourth quarter of 2026.

In response to continued elevated input costs, the Company has negotiated price increases across its conventional kefir product portfolio with customers, which begin to take effect in the fourth quarter of 2026. The timing of implementation varies by customer, and certain increases are not expected to take effect until the first quarter of 2027.

We continue to monitor macroeconomic conditions and global trade developments, including further inflation in key input costs, 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, further commodity cost volatility, and broader economic uncertainty. We do not currently expect tariffs 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.

Results of Operations

Three Months Ended September 30, 2026 Compared to Three Months Ended September 30, 2025

The following table presents certain information concerning our financial results, including information presented as a percentage of consolidated net sales:

		Three Months Ended September 30,
		2026								2025
		$				%				$				%
Net sales			67,797				100.0%				57,143				100.0%
Cost of goods sold			54,599				80.5%				39,821				69.7%
Depreciation expense			1,034				1.5%				914				1.6%
Total cost of goods sold			55,633				82.0%				40,735				71.3%
Gross profit			12,164				18.0%				16,408				28.7%
Selling expenses			6,434				9.5%				5,047				8.8%
General & administrative expense			4,510				6.7%				6,186				10.8%
Amortization expense			135				0.2%				135				0.2%
Total operating expenses			11,079				16.4%				11,368				19.8%
Income from operations			1,085				1.6%				5,040				8.9%
Other income (expense):
Interest expense			(340	)			(0.5%	)			(21	)			0.0%
Other income (expense), net			20				0.0%				73				0.1%
Total other income (expense)			(320	)			(0.5%	)			52				0.1%
Income before provision for income taxes			765				1.1%				5,092				9.0%
Provision for income taxes			505				0.7%				1,563				2.7%
Net income			260				0.4%				3,529				6.3%

Net Sales

Net sales were at $67,797 for the three-month period ended September 30, 2026, an increase of $10,654 or 18.6% versus prior year. The net sales increase was primarily driven by higher volumes of our branded drinkable kefir.

Gross Profit

Gross profit as a percentage of net sales was 18.0% and 28.7% in the three-month period ended September 30, 2026 and 2025, respectively. The decrease versus the prior year was driven by the unfavorable impact of milk pricing and the increase in input costs such as resin-based packaging, ingredients and transportation costs.

Selling Expenses

Selling expenses increased by $1,387 to $6,434 during the three-month period ended September 30, 2026 from $5,047 during the same period in 2025. Selling expenses as a percentage of net sales increased to 9.5% in the three-month period ended September 30, 2026 from 8.8% during the same period in 2025. The increase is primarily a result of our continued investments in marketing activities to drive brand awareness and sales volume growth.

General and Administrative Expenses

General and administrative expenses decreased $1,676 to $4,510 during the three-month period ended September 30, 2026 from $6,186 during the same period in 2025. General and administrative expenses as a percentage of net sales decreased to 6.7% in the three-month period ended September 30, 2026 from 10.8% during the same period in 2025. The Company incurred approximately $2,400 of professional fees associated with the Danone unsolicited purchase proposal and non-routine stockholder actions during the three-month period ended September 30, 2025.

Provision for Income Taxes

Income taxes were recognized at effective rates of 66.0% and 30.3% for the three months ended September 30, 2026 and 2025, respectively. Statutory Federal and state tax rates remained consistent from 2025 to 2026. The Company has items that are non-deductible or are discrete adjustments to tax expense. The Company consistently reflects non-deductible officer compensation expense, non-deductible stock-based compensation expense and separate state tax rates from period to period. Although similar items were reflected in 2026, the percentage effect is different due to the difference in pre-tax income in 2026 compared to 2025.

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 jurisdictional mix of earnings, enacted tax legislation, state income taxes, 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 and completed tax audits in the period in which they occur.

Income taxes are discussed in Note 10 in the Notes to the Consolidated Financial Statements.

Nine Months Ended September 30, 2026 Compared to Nine Months Ended September 30, 2025

The following table presents certain information concerning our financial results, including information presented as a percentage of consolidated net sales:

		Nine Months Ended September 30,
		2026								2025
		$				%				$				%
Net sales			197,702				100.0%				157,135				100.0%
Cost of goods sold			152,199				77.0%				111,744				71.1%
Depreciation expense			2,962				1.5%				2,548				1.6%
Total cost of goods sold			155,161				78.5%				114,292				72.7%
Gross profit			42,541				21.5%				42,843				27.3%
Selling expense			20,256				10.2%				14,463				9.2%
General & administrative expense			13,870				7.0%				15,566				9.9%
Amortization expense			405				0.2%				405				0.3%
Total operating expenses			34,531				17.4%				30,434				19.4%
Income from operations			8,010				4.1%				12,409				7.9%
Other income (expense):
Interest expense			(623	)			(0.3%	)			(56	)			0.0%
Fair value loss on investments			-				0.0%				(20	)			0.0%
Gain on investments			-				0.0%				3,407				2.2%
Other income (expense), net			42				0.0%				229				0.1%
Total other income (expense)			(581	)			(0.3%	)			3,560				2.3%
Income before provision for income taxes			7,429				3.8%				15,969				10.2%
Provision for income taxes			2,368				1.2%				4,651				3.0%
Net income			5,061				2.6%				11,318				7.2%

Net Sales

Net sales were at $197,702 for the nine-month period ended September 30, 2026, an increase of $40,567 or 25.8% versus prior year. The net sales increase was primarily driven by higher volumes of our branded drinkable kefir.

Gross Profit

Gross profit as a percentage of net sales was 21.5% and 27.3% during the nine-month period ended September 30, 2026 and 2025, respectively. The decrease versus the prior year was driven by the increase in input costs such as resin-based packaging, ingredients and transportation costs, partially offset by higher volumes of our branded products, which provided manufacturing efficiencies.

Selling Expense

Selling expense increased by $5,793 to $20,256 during the nine-month period ended September 30, 2026 from $14,463 during the same period in 2025. Selling expenses as a percentage of net sales increased to 10.2% in the nine-month period ended September 30, 2026 from 9.2% during the same period in 2025. The increase is primarily a result of our continued investments in marketing activities to drive brand awareness and sales volume growth.

General and Administrative Expense

General and administrative expense decreased $1,696 to $13,870 during the nine-month period ended September 30, 2026 from $15,566 during the same period in 2025. General and administrative expenses as a percentage of net sales decreased to 7.0% in the nine-month period ended September 30, 2026 from 9.9% during the same period in 2025. The Company incurred approximately $375 of legal and professional fees associated with the sale of Danone USA Public Benefit Corporation's holdings of common stock of Lifeway Foods, Inc. in an underwritten transaction during the nine-month period ended September 30, 2026. The Company incurred approximately $4,300 of professional fees associated with the Danone unsolicited purchase proposal and non-routine stockholder actions during the nine-month period ended September 30, 2025.

Provision for Income Taxes

The effective income tax rate for the nine months ended September 30, 2026 was 31.9% compared to 29.1% in the same period last year. The change in the Company's effective tax rate is primarily driven by the decrease in pre-tax book income and changes in the amount of non-deductible officer compensation and non-deductible stock-based compensation expense.

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 jurisdictional mix of earnings, enacted tax legislation, state income taxes, 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 and completed tax audits in the period in which they occur.

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, interim funding agreement, 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, $13,000 was available under the Revolving Credit Facility and $9,968 was available under the Interim Funding Agreement as of September 30, 2026 (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, in our Annual Report on Form 10-K).

Cash Flow

The following table is derived from our Consolidated Statement of Cash Flows:

		Nine months Ended September 30,
Net Cash Flows Provided By (Used In):		2026				2025
Operating activities		$	4,937			$	10,681
Investing activities		$	(22,324	)		$	(4,354	)
Financing activities		$	18,791			$	(65	)

Operating Activities

Net cash provided by operating activities was $4,937 and $10,681 during the nine-month period ended September 30, 2026 and 2025, respectively. The decrease was primarily due to the change in working capital and to a lesser extent the decrease in cash earnings.

Investing Activities

Net cash used in investing activities was $22,324 and $4,354 during the nine-month period ended September 30, 2026 and 2025, respectively.

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 more than double the facility's manufacturing capacity and improve packaging efficiency, as well as other operational improvements. The Company currently estimates investing approximately $50,500. As of September 30, 2026, the cumulative cash paid for this project was $40,847 and is included on the consolidated balance sheet in property, plant and equipment, with $3,691 in-service and recorded in machinery and equipment, $7,348 in-service and recorded in leasehold improvements, and $29,808 recorded in construction in process. 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 and interim funding agreement. We expect to be able to manufacture and package at an increased scale beginning in Q1 2027, with completion of the project expected to occur during Q2 2027.

The Company received cash proceeds of $5,206 during the nine-month period ended September 30, 2025 from the sale of our Simple Mills investment.

Financing Activities

Net cash provided by financing activities was $18,791 during the nine-month period ended September 30, 2026 compared to net cash used in financing activities of $65 in the same period in 2025. The cash provided during 2026 primarily represents the line of credit and interim funding agreement borrowing in connection with the Waukesha Wisconsin facility expansion and modernization project. During the second quarter of 2026, the Company repurchased $4,937 of treasury stock in connection with the sale of Danone USA Public Benefit Corporation's holdings of common stock of Lifeway Foods, Inc. in an underwritten transaction. During the first quarter of 2026, to comply with the Company's contractual obligations in place at the time prohibiting the Company from issuing equity to the Chief Executive Officer and certain of her affiliates, the Company settled previously vested restricted stock units held by the Chief Executive Officer in cash. The cash used in 2025 represented credit agreement amendment expenses incurred during the first quarter.

Debt Obligations

As of September 30, 2026, the Company had $12,000 outstanding under the Revolving Credit Facility. The Company had $13,000 available for future borrowings under the Revolving Credit Facility as of September 30, 2026.

All outstanding amounts under the revolving line of credit bear interest at the Secured Overnight Financing Rate ("SOFR"), plus 1.75% (5.63% as of September 30, 2026). 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%.

As of September 30, 2026, the Company had $12,032 outstanding under the Interim Funding Agreement. The Company had $9,968 available for future borrowings under the Interim Funding Agreement as of September 30, 2026, subject to lender's acceptance of collateral documentation.

All outstanding amounts under the Interim Funding Agreement bear interest at the 1-month Term Secured Overnight Financing Rate ("SOFR"), plus 1.65% (5.39% as of September 30, 2026). Interest is payable monthly in arrears.

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.

The Company is in compliance with all applicable financial debt covenants as of September 30, 2026. See Note 7 to our Consolidated Financial Statements for additional information regarding our indebtedness and related agreements.

Recent Accounting Pronouncements

Information regarding recent accounting pronouncements is provided in Note 2 - Summary of Significant Accounting Policies.

Critical Accounting Policies and Estimates

A description of the Company's critical accounting policies and estimates is contained in its Annual Report on Form 10-K for the year ended December 31, 2025. There were no material changes to the Company's critical accounting policies and estimates in the nine months ended September 30, 2026.