Lifeway Foods, Inc. (LWAY) FY 2024 MD&A

ITEM 7.      MANAGEMENT’S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion and analysis of the financial
condition and results of operations as of and for the years ended December 31, 2024 and 2023 should be read in conjunction with the audited
consolidated financial statements and the notes to those statements that are included elsewhere in this Annual Report on Form 10-K. In
addition to historical information, the following discussion contains certain forward-looking statements within the “safe harbor”
provisions of the Private Securities Litigation Reform Act of 1995. These statements relate to our future plans, objectives, expectations
and intentions. These statements may be identified by the use of words such as “may,” “could,” “believe,”
“future,” “depend,” “expect,” “will,” “result,” “can,” “remain,”
“assurance,” “subject to,” “require,” “limit,” “impose,” “guarantee,”
“restrict,” “continue,” “become,” “predict,” “likely,” “opportunities,”
“effect,” “change,” and “estimate,” and similar terms or terminology, or the negative of such terms
or other comparable terminology. Although we believe the expectations expressed in these forward-looking statements are based on reasonable
assumptions within the bounds of our knowledge of our business, our actual results could differ materially from those discussed in these
statements. Factors that could contribute to such differences include, but are not limited to, those discussed in the “Risk Factors”
section in Part I, Item 1A. We undertake no obligation to update publicly any forward-looking statements for any reason even if new information
becomes available or other events occur in the future.

Recent Developments

Unsolicited Proposal

On November 5, 2024, we announced that our board
of directors (our “Board”) determined, after careful and thorough consideration in consultation with the Company’s independent
financial and legal advisors, that the unsolicited proposal made on September 23, 2024 by Danone North America PBC (“Danone”)
to acquire all of the shares of the Company that it did not already own for $25.00 per share, substantially undervalued the Company and
was not in the best interests of the Company or its stockholders or other stakeholders. In connection with that determination, we entered
into a Shareholder Rights Agreement with Computershare Trust Company, N.A., as rights agent (the “Rights Agreement”). Pursuant
to the Rights Agreement, our Board declared a dividend of one preferred share purchase right (each a “Right”) for each outstanding
share of Company common stock to stockholders of record as of the close of business on November 18, 2024. Each Right entitles its holder,
subject to the terms of the Rights Agreement, to purchase from the Company one one-thousandth of one share of Series A Junior Participating
Preferred Stock, no par value, of the Company at an exercise price of $130.00 per Right, subject to adjustment. Rights also attach to
any shares of Company common stock that become outstanding after November 18, 2024 and prior to the earlier of the Distribution Time (as
defined in the Rights Agreement) and the redemption or expiration of the Rights, and in certain other circumstances described in the Rights
Agreement.

On November 15, 2024, Danone revised its offer
to acquire all of the shares of the Company that it did not already own from $25.00 per share to $27.00 per share. On November 20, 2024,
we announced our Board’s determination that, after careful and thorough consideration in consultation with the Company’s independent
financial and legal advisors, the revised unsolicited proposal substantially undervalued the Company and was not in the best interests
of the Company or its stockholders or other stakeholders. On November 26, we announced additional information regarding the information
the Board used to come to this determination.

Debt Refinancing

On February 5, 2025,
the Company entered into the Fifth Modification to the Amended and Restated Loan and Security Agreement (the “Fifth Modification”)
with its current lender. The Fifth Modification, among other things, (i) increased the commitment for revolving loans under the Credit
Agreement from $5,000 to $25,000, with interest payable at either the lender Base Rate (the Prime Rate minus 1.00%) or the SOFR plus 1.75%,
(ii) extended the termination date of the Credit Agreement to February 5, 2028 and (iii) replaced the quarterly minimum working capital
financial covenant with a financial covenant to maintain a maximum cash flow leverage ratio of no greater than 2.00 to 1.00 for each fiscal
quarter commencing with the fiscal quarter ending March 31, 2025. The remaining material terms and conditions of the Credit Agreement
remain substantially unchanged. The Company had no outstanding borrowings at the time of entry into the Fifth Modification.

Products

In October 2024, we began to roll out our first
products with 100% lactose free labeling. Our products were already up to 99% lactose free, so we are pleased to further attract consumers
with our new Organic Whole Milk Flavor Fusion items that have this added benefit, along with decreased sugar content. In demand flavors
including Hot Honey, Matcha Latte, and Passionfruit Lychee are new additions to our portfolio. The entire lineup is loaded with high-quality
bioavailable nutrients, and plays to our strengths, as our organic products have been incredibly successful to date.

We expect health and wellness trends to continue to
be a tailwind for our entire premium product portfolio. We plan to continue to invest behind our key products to capture more and more
of this growing market,

Distribution Strategy

In September 2024, we announced our first expansion
of Kefir distribution in the South African market. In November 2024, we announced our expansion within Dubai and the UAE. The offering
of 32oz Lifeway Kefir, 8oz Lactose-Free Lifeway Kefir, ProBugs and farmer cheese, exported from the United States, is expected to begin
shipping in the first quarter of 2025 and will become available in supermarkets and hypermarkets in Dubai and across the Emirates. We
are taking a measured, and thoughtful approach to global expansion, as we seek markets that are primed for success and can be accessed
without a major initial investment.

Trends and Uncertainties

Current Macroeconomic Environment

We have not experienced significant supply chain disruptions
or labor supply shortages and have continued to satisfy customer and consumer demand for our products. Management continues to proactively
manage the supply and transportation of materials used to produce and package our products, staffing, and transportation of our products
to customers. This proactive planning has allowed the Company to meet increased demand.

Results of Operations

Comparison of Year Ended December 31, 2024 to Year
Ended December 31, 2023 (in thousands)

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

Net Sales

Net sales were $186,820 for the year ended December
31, 2024, an increase of $26,697 or 16.7% 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 decreased
to 26.0% during the year ended December 31, 2024 from 26.5% during the same period in 2023. The decrease versus the prior year was driven
by the unfavorable impact of milk pricing, and to a lesser extent the increase in other input costs, partially offset by favorable transportation
costs.

Selling Expenses

Selling expenses increased by $2,967 to $14,743
during the year ended December 31, 2024 from $11,776 during the same period in 2023. Selling expenses as a percentage of net sales increased
to 7.9% during the year ended December 31, 2024 from 7.4% during the same period in 2023. The increase is primarily a result of our continued
investments in marketing activities to drive brand awareness and sales volumes.

General and Administrative Expenses

General and administrative expenses increased
$6,309 to $19,439 during the year ended December 31, 2024 from $13,130 during the same period in 2023. Legal and professional fees associated
with non-routine stockholder action and the Danone unsolicited purchase proposal, and the CEO retention bonus awarded in the fourth quarter
of 2024, account for approximately 75% of the increase. General and administrative stock-based compensation expense increased $784 compared
to the same period in 2023.

Provision for Income Taxes

The provision for income taxes includes federal,
state and local income taxes. The provision for income taxes was $4,944 and $5,282 during the year ended December 31, 2024 and 2023, respectively.

The effective income tax rate was 35.4% in 2024
compared to 31.7% in 2023. The statutory Federal and state tax rates remained consistent from 2023 to 2024. The Company consistently reflects
non-deductible items such as non-deductible officer compensation expense, non-deductible compensation expense related to equity incentive
awards and separate state tax rates from year to year. Although similar items were reflected in 2024, the percentage effect is different
primarily due to the increase in certain non-deductible compensation in 2024 compared to 2023. The increase is partially offset by the
difference in pre-tax income in 2024 compared to 2023.

The Company’s effective tax rate may change
from period to period based on recurring and non-recurring factors including the relative mix of pre-tax earnings (or losses), the underlying
income tax rates applicable to various state and local taxing jurisdictions, enacted tax legislation, the impact of non-deductible items,
changes in valuation allowances, settlement of tax audits, and the expiration of the statute of limitations in relation to unrecognized
tax benefits. The Company records discrete income tax items such as enacted tax rate changes in the period in which they occur.

Section 162(m) of the Internal Revenue Code (the
“Code”) limits the deductibility of compensation paid to certain of our executives to the extent their total compensation
exceeds $1 million in any taxable year.

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 while it has been impacted by the macroeconomic challenges with commodity inflation
and other input cost increases, the Company believes that its cash flow from operations, revolving credit facility, and cash and cash
equivalents will continue to provide sufficient liquidity for its working capital needs, capital resource requirements, and growth initiatives
and to ensure the continuation of the Company as a going concern.

If additional
borrowings are needed, $5,000 was available under the Revolving Credit Facility as of December 31, 2024 (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 income tax liabilities) as well as expenditures for property, plant,
and equipment.

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

Cash Flow

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

Operating Activities

Net cash provided by operating activities was $12,962
in 2024 compared to $16,941 in 2023. The decrease was primarily due to lower cash earnings driven by non-routine stockholder action, and
the change in working capital.

Investing Activities

Net cash used in investing activities was $6,682 in
2024 compared to $4,410 in 2023. The increase in cash used reflects our planned capital spending increase during 2024 compared to 2023.
Our capital spending is focused in three core areas: growth, cost reduction, and facility improvements. Growth capital spending supports
increased production capacity, new product innovation and enhancements. Cost reduction and facility improvements support manufacturing
efficiency, safety, and productivity. We continue to make capital expenditures primarily to modernize manufacturing facilities and support
productivity initiatives.

Financing Activities

Net cash used in financing activities was
$2,750 in 2024 compared to $3,777 in 2023. The cash used represents the quarterly principal payments under the term loan. The Company
paid the outstanding term loan balance of $2,250 in full during the second quarter of 2024.

Debt Obligations

The Company is party to an Amended and Restated
Loan and Security Agreement (as amended and modified from time to time, the “Credit Agreement”) with its existing lender and
certain of its subsidiaries. The Credit Agreement provides for, among other things, a $5,000 term loan to be repaid in quarterly installments
of principal and interest over a term of five years, a revolving line of credit up to a maximum of $5,000 (the “Revolving Credit
Facility”) and an incremental facility not to exceed $5,000. The termination date of the term loan is August 18, 2026, unless earlier
terminated. The term loan was terminated during the second quarter of 2024 upon payment of the outstanding loan balance in full. The termination
date of the revolving credit facility is June 30, 2025, unless earlier terminated.

As of December 31, 2024, the Company had $0 outstanding
under the Revolving Credit Facility and note payable. The Company had $5,000 available for future borrowings under the Revolving Credit
Facility as of December 31, 2024.

All outstanding amounts under the loans bear interest
at the Secured Overnight Financing Rate (“SOFR”), plus 2.07%. Interest is payable monthly in arrears. Lifeway is also required
to pay a quarterly unused line fee of 0.20% on the Revolving Credit Facility, and in conjunction with the issuance of any letters of credit,
a letter of credit fee of 0.20%.

The Company is in compliance with all applicable
financial debt covenants as of December 31, 2024. See Note 7 to our Consolidated Financial Statements for additional information regarding
our indebtedness and related agreements.

Off-Balance Sheet Arrangements

We do not have any off-balance sheet financing
arrangements as defined in Item 303(a)(4) of Regulation S-K.

Critical Accounting Estimates

Critical accounting estimates are defined as those
most important to the portrayal of a company’s financial condition and results, and require the most difficult, subjective, or complex
judgments. In many cases, the accounting treatment of a particular transaction is specifically dictated by U.S. GAAP with no need for
the application of our judgement. In certain circumstances, the preparation of our Consolidated Financial Statements in conformity with
U.S. GAAP requires us to use our judgment to make certain estimates and assumptions. These estimates affect the reported amounts of assets
and liabilities and disclosures of contingent assets and liabilities at the date of the Consolidated Financial Statements and the reported
amounts of net sales and expenses during the reporting period. We believe in the quality and reasonableness of our critical accounting
estimates; however, materially different amounts might be reported under different conditions or using assumptions, estimates or making
judgments different from those that we have applied. Management has discussed the development and selection of these critical accounting
policies, as well as our significant accounting policies (see Note 2 to the Consolidated Financial Statements), with the Audit and Corporate
Governance Committee of our Board of Directors. We have identified the policies described below as our critical accounting policies that
require us to make subjective or complex judgments.

Goodwill impairment

Goodwill totaled $11,704 as of December 31, 2024.
Goodwill represents the excess purchase price over the fair value of the net tangible and other identifiable intangible assets acquired.
Goodwill is not amortized.

The Company has one reporting unit within its single
reportable segment. We review and evaluate our goodwill for potential impairment at a minimum annually, as of December 31, or more frequently
if circumstances indicate that impairment is possible. We completed our annual goodwill impairment analysis as of December 31, 2024. Our
assessment did not result in an impairment.

In testing goodwill for impairment, the Company has
the option to perform a qualitative test (also known as “Step 0”) or a quantitative test (“Step 1”). Under the
Step 0 test, the Company first assesses qualitative factors to determine whether it is more likely than not that the fair value of the
reporting unit is less than its carrying value. Qualitative factors may include, but are not limited to, economic conditions, industry
and market considerations, cost factors, overall financial performance of the reporting unit and other entity and reporting unit specific
events. If after assessing these qualitative factors, the Company determines it is “more-likely-than-not” that the fair value
of the reporting unit is less than the carrying value, then performing the Step 1 quantitative test is necessary.

Step 1 of the quantitative test requires comparison
of the fair value of the Company’s one reporting unit to the carrying value. If the carrying value of the reporting unit is less
than the fair value, no impairment exists. Otherwise, the Company would recognize an impairment charge for the amount by which the carrying
amount of the reporting unit exceeds its fair value up to the amount of goodwill allocated to the reporting unit.

Under a Step 1 quantitative test, we estimate the
fair value of our one reporting unit using a combination of the fair values derived from both the income approach and the market approach.
Under the income approach, the Company uses a discounted cash flow methodology which requires management to make significant estimates
and assumptions related to forecasted revenues, gross profit margins, operating income margins, working capital cash flow, perpetual growth
rates, and long-term discount rates, among others. The discount rate used to determine the present value of future cash flows is based
on the weighted-average cost of capital adjusted for the relevant risk associated with business-specific characteristics and the uncertainty
related to the business’s ability to execute on the projected cash flows. For the market approach, the Company uses the guideline
public company method. The market approach estimates fair value based on market multiples of revenue and earnings derived from comparable
publicly traded companies with similar operating and investment characteristics. The Company also reconciles the fair value of its reporting
unit to its current market capitalization, allowing for a reasonable control premium.

Sales discounts & allowance

We offer various trade promotions and sales incentive
programs to customers and consumers. From time to time, we grant certain sales discounts to customers which are classified as a reduction
in sales. The measurement and recognition of discounts and allowances involve the use of judgment and our estimates are made based on
historical experience and specific customer program accruals. Differences between estimated and actual discount and allowance costs are
normally not material and are recognized in earnings in the period such differences are determined. The process for analyzing trade promotion
programs could impact our results of operations and trade spending accruals depending on how actual results of the programs compare to
original estimates. As of December 31, 2024, we had $1,590 of accrued discounts and allowances.

Share-based compensation

Certain employees and non-employee directors receive
various forms of share-based payment awards, and we recognize compensation expense for these awards based on their grant date fair values.
The grant date fair value of Restricted Stock Units (“RSUs”) and Performance Share Unit (“PSUs”) awards is equal
to the Company’s closing stock price on the grant date. The Company granted RSU and PSU awards during 2024 to employees. The PSU
awards are contingent upon the achievement of strategic milestones during a three-year measurement period. The expense recognition of
PSU awards therefore requires management to make judgements and estimates at the end of each reporting period as to the cumulative three-year
milestone achievements. Changes in managements estimate of the three-year cumulative milestone achievements are recognized as change in
management estimate in a subsequent period. We do not estimate forfeitures in measuring the grant date fair value of RSUs and PSUs, but
rather account for forfeitures as they occur. Forfeitures have historically been immaterial. See Note 11 to our consolidated financial
statements for further detail.

Income taxes

We pay income taxes based on tax statutes, regulations,
and case law of the various jurisdictions in which we operate. At any given time, multiple tax years are subject to audit by the various
taxing authorities. Income taxes are accounted for under the asset and liability method. Deferred income tax assets and liabilities are
recognized for the future tax effects of temporary differences between financial and income tax reporting using tax rates in effect for
the years in which the differences are expected to reverse. The assumptions about future taxable income require the use of significant
judgment and are consistent with the plans and estimates we are using to manage our underlying businesses.

We recognize an income tax benefit from an uncertain
tax position only if it is more likely than not that the tax position will be sustained on examination by the taxing authorities based
on the technical merits of the position. The income tax benefit recognized in our financial statements from such a position is measured
based on the largest estimated benefit that has a greater than 50% likelihood of being realized upon ultimate settlement. These judgments
and estimates made at a point in time may change based on the outcome of tax audits and changes to, or further interpretations of, regulations.
If such changes take place, there is a risk that our tax rate may increase or decrease in any period, which would impact our earnings.
Future business results may affect deferred tax liabilities or the valuation of deferred tax assets over time.

Recent Accounting Pronouncements.

See Note 2, Summary of Significant Accounting Policies,
in the Notes to the Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10-K for information regarding
recent accounting pronouncements.