UNITED STATES
                       SECURITIES AND EXCHANGE COMMISSION
                             Washington, D.C. 20549

                                   Form 10-QSB

(Mark One)

   [X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE 
       ACT OF 1934   
                          For the quarterly period ended March 31, 1998

   [ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE EXCHANGE ACT
                          For the transition period from _________ to __________
                          Commission file number: 0-17363

                                LIFEWAY FOODS, INC.
           (Exact name of small business issuer as specified in it charter)

         Illinois                                         36-3442829
--------------------------------------------------------------------------------
(State or other jurisdiction                   (IRS Employer Identification No.)
of incorporation or organization)              

                7625 North Austin Avenue, Skokie, Illinois 60077
--------------------------------------------------------------------------------
                    (Address of principal executive offices)

                                  (847) 967-1010
                           ---------------------------
                           (issuer's telephone number)

--------------------------------------------------------------------------------
              (Former name, former address and former fiscal year,
                          if changed since last report)

Check  whether the issuer (1) filed all reports  required to be filed by Section
13 or 15(d) of the  Exchange  Act  during  the past 12 months  (or such  shorter
period  that the issuer was  required  to file such  reports),  and (2) has been
subject to such filing requirements for the past 90 days. Yes [X] No [ ]

                APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY
                   PROCEEDINGS DURING THE PRECEDING FIVE YEARS

Check whether the issuer filed all documents and reports required to be filed by
Section 12, 13 or 15(d) of the Exchange Act after the distribution of securities
under a plan confirmed by a court. Yes [ ] No [ ]

                      APPLICABLE ONLY TO CORPORATE ISSUERS

State the number of shares outstanding of each of the issuer's classes of common
equity,  as of the latest  practicable  date: AS OF MAY 5, 1998,  THE ISSUER HAD
3,778,877 SHARES OF COMMON STOCK, NO PAR VALUE, OUTSTANDING.

Transitional Small Business Disclosure Format (Check one): Yes [ ]   No [X]


<PAGE>


                                    INDEX


PART I - FINANCIAL INFORMATION                                              Page
                                                                            ----

Item 1.  Financial Statements.                                               F-1

         Lifeway Foods, Inc. and Subsidiaries
         March 31, 1997 and 1996

                  Consolidated Balance Sheets
                  December 31, 1997 and
                  March 31, 1998 and 1997                              F-2 - F-3

                  Consolidated Statements of Income
                  for the year ended December 31, 1997
                  and for the three months ended 
                  March 31, 1998 and 1997 (unaudited)                        F-4

                  Consolidated Statements of Changes
                  in Stockholders' Equity for the year 
                  ended December 31, 1997 and
                  for the three months ended 
                  March 31, 1998 and 1997 (unaudited)                        F-5

                  Consolidated Statements of Cash Flows
                  for the year ended December 31, 1997 and
                  for the three months ended March 31, 1998
                  and 1997 (unaudited)                                 F-6 - F-7

                  Notes to Consolidated Financial
                  Statements (unaudited)                              F-8 - F-15


Item 2.  Management's Discussion and Analysis of Financial
              Conditions and Results of Operations                             3


PART II - OTHER INFORMATION                                                    4


SIGNATURES                                                                     5


<PAGE>



                      PART I - FINANCIAL INFORMATION


Item 1.  Financial Statements.













                     LIFEWAY FOODS, INC. AND SUBSIDIARIES
                              FINANCIAL STATEMENTS
                            MARCH 31, 1998 AND 1997




<PAGE>


                     LIFEWAY FOODS, INC. AND SUBSIDIARIES
                           CONSOLIDATED BALANCE SHEET


                                                 (Unaudited)
                                                  March 30,
                                           ----------------------   December 31,
ASSETS                                         1998       1997          1997
                                           ----------  ----------   ------------
Current Assets
      Cash and cash equivalent             $  482,090  $1,006,636   $    550,670
      Investments                             230,115     216,865        227,622
      Accounts receivable, net of allowance
         for doubtful accounts of $48,000 at
         March 31, 1998 and 1997 and
         December 31, 1997                    857,105     787,719        818,245
      Other receivables                        16,200      16,000         15,200
      Inventories                             605,022     423,280        614,022
      Prepaid expenses and other assets        43,655      61,570          7,714
      Deferred income taxes                    17,936      41,418         59,354
                                           ----------  ----------   ------------

      Total current asset                   2,252,123   2,553,488      2,292,827

Property and Equipment
      Land                                    658,400     658,400        658,400
      Buildings, machinery and equipment    4,621,169   3,289,302      4,540,891
                                           ----------  ----------   ------------
      Total property and equipment          5,279,569   3,947,702      5,199,291
      Less:  accumulated depreciation       1,371,355   1,113,954      1,283,486
                                           ----------  ----------   ------------
      Property and equipment, net           3,908,214   2,833,748      3,915,805

Other Assets
      Intangible assets                       330,343     330,343        330,343
      Less;  accumulated amortization         309,945     274,647        306,477
                                           ----------  ----------   ------------
      Total other assets                       20,398      55,696         23,866
                                           ----------  ----------   ------------

Total Assets                               $6,180,735  $5,442,932   $  6,232,498
                                           =========== ==========   ============







                 SEE ACCOMPANYING NOTES TO FINANCIAL STATEMENTS

                                    F-2


<PAGE>


                       LIFEWAY FOODS, INC. AND SUBSIDIARIES
                             CONSOLIDATED BALANCE SHEET







LIABILITIES AND STOCKHOLDERS' EQUITY
                                                (Unaudited)
                                                 March 31,          December 31,
                                              1998       1997          1997
                                           ----------  ----------   -----------
Current Liabilities
      Current maturities of notes payable  $  668,630  $  106,869   $   681,561
      Accounts Payable                        339,895     237,522       394,390
      Accrued expenses                        270,706     272,237       429,197
                                           ----------  ----------   -----------
      Total current liabilities             1,279,231     616,628     1,505,148

Long-Term Liabilities
      Notes payable                           776,593   1,446,701       791,920

Deferred Income Taxes                          37,822      36,362        79,240


Stockholders' Equity
      Common Stock                          1,396,316   1,374,754     1,396,316
      Retained Earnings                     2,709,591   1,987,305     2,478,692
      Treasury Stock                         ( 18,818)   ( 18,818)     ( 18,818)
                                           ----------  ----------   -----------
      Total stockholders' equity            4,087,089   3,343,241     3,856,190
                                           ----------  ----------   -----------

Total Liabilities and Stockholders' Equity $6,180,735  $5,442,932   $ 6,232,498
                                           ==========  ==========   ===========








                   SEE ACCOMPANYING NOTES TO FINANCIAL STATEMENTS

                                       F-3



<PAGE>


                         LIFEWAY FOODS, INC. AND SUBSIDIARIES
                           CONSOLIDATED STATEMENTS OF INCOME


 
                                       (Unaudited)                    For the
                               For the three months ended           year ended
                                        March 31,                  December 31,
                              -------------------------------      ------------
                                  1998               1997               1997
                              ------------       ------------      ------------
Sales                         $  1,630,568       $  1,413,864      $  5,960,878

Cost of goods sold                 692,302            660,881         3,434,605
                              ------------       ------------      ------------

Gross Profit                       938,266            752,983         2,526,273

Operating Expenses                 543,876            463,705         1,486,338
                              ------------       ------------      ------------


Income from operations             394,390            289,278         1,039,935

Other income (expense)
      Interest income                9,099             12,124            47,344
      Interest expense            ( 26,656)           (36,694)         (124,218)
      Other Income                       0             74,343           214,058
                              ------------       ------------      ------------
      Total other income
      (expense)                   ( 17,557)            50,062           137,184
                              ------------       ------------      ------------

Income before income taxes         376,833            339,340         1,177,119

Provision for income taxes         145,934            130,410           476,802
                              ------------       ------------      ------------

Net Income                    $    230,899       $    208,930      $    700,317
                              ============       ============      ============

Earnings per share            $        .06       $        .06      $        .19
                              ============       ============      ============

Weighted average shares
 outstanding                     3,789,277          3,777,385         3,776,102
                              ============       ============      ============




                   SEE ACCOMPANYING NOTES TO FINANCIAL STATEMENTS

                                       F-4



<PAGE>


<TABLE>
<CAPTION>
                             LIFEWAY FOODS, INC. AND SUBSIDIARIES
                     CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY

                                   Common Stock, No par Value
                                  10,000,000 Shares Authorized
                                  ----------------------------
                                                        # of
                                                      Shares of
                                  # of Shares issued  Treasury      Common    Treasury      Retained
                                    and outstanding     Stock       Stock      Stock        Earnings
                                  ------------------  ---------  -----------  --------    -----------
<S>                                    <C>              <C>      <C>          <C>         <C>
Balances at
  December 31, 1995                    3,785,377              0  $ 1,374,754  $      0    $ 1,160,607

Repurchase of
   treasury stock                              0         10,400            0    18,818              0

Net income for the year
    ended December 31, 1996                    0              0            0         0        617,768
                                       ---------      ---------  -----------  --------    -----------

Balances at
   December 31, 1996                   3,785,377         10,400    1,374,754    18,818      1,778,375

Shares exchanged in
     non-cash transaction                  3,900              0       21,562         0              0
                                       ---------      ---------  -----------  --------    -----------

Net income for the year
     ended December. 31, 1997                  0              0            0         0        700,317
                                       ---------      ---------  -----------  --------    -----------

Balances at
  December 31, 1997                    3,789,277         10,400    1,396,316    18,818      2,478,692
                                       ---------      ---------  -----------  --------    -----------

Net income for the three months
     ended March 31, 1998                      0              0            0         0        230,899
                                       ---------      ---------  -----------  --------    -----------

Balances at
  March 31, 1998                       3,789,277         10,400    1,396,316    18,818      2,709,591
                                       =========      =========  ===========  ========    ===========
</TABLE>



                     SEE ACCOMPANYING NOTES TO FINANCIAL STATEMENTS

                                       F-5



<PAGE>

<TABLE>
<CAPTION>
                                       LIFEWAY FOODS, INC. AND SUBSIDIARIES
                                       CONSOLIDATED STATEMENTS OF CASH FLOWS

                                                           (Unaudited)
                                                    For the three months ended       For the year ended
                                                            March 31,                    December 31,
                                                    --------------------------
                                                        1998           1997                 1997
                                                    -----------     ----------           -----------
<S>                                                 <C>             <C>                  <C> 
Cash flows from operating activities:
  Net income                                        $  230,899      $  208,930           $   700,317
  Adjustments to reconcile net income to net
    cash flows from operating activities:
      Depreciation and amortization                     91,337          55,624               276,491
      Issuance of common stock in exchange
        for services                                         0               0                21,562
      Deferred income taxes                                  0               0                24,942
      (Increase) decrease in operating assets:
         Accounts receivable                         (  38,860)      ( 167,311)            ( 197,837)
         Other receivable                            (   1,000)          7,600                 8,400
         Inventories                                     9,000        (  9,956)            ( 200,698)
         Prepaid expenses and other assets           (  35,941)       ( 53,856)                    0
      Increase (decrease) in operating liabilities:
         Accounts payable                            (  54,495)       (  4,557)              152,311
         Accrued expenses                            ( 158,491)            183               157,143
                                                    ----------     -----------          ------------
Net cash provided (used) by operating activities        42,449          36,062               942,631

Cash flows from investing activities:
  Purchase of investments                            (   2,493)       (  3,194)            (  13,951)
  Purchase of property and equipment                 (  80,278)       (  1,071)          ( 1,272,760)
                                                    ----------     -----------          ------------
Net cash provided by (used) in
  investing activities                                ( 82,771)       (  4,265)          ( 1,286,711)

Cash flows from financing activities:
  Repayments of notes payable                         ( 28,258)       ( 21,262)          (   101,351)
                                                    ----------     -----------          ------------
Net cash used in financing activities                 ( 28,258)       ( 21,262)          (   101,351)
                                                    ----------     -----------          ------------

Net increase (decrease) in cash and
  cash equivalents                                    ( 68,580)         10,535           (   445,431)

Cash and cash equivalents at
  beginning of period                                  550,670         996,101               996,101
                                                    ----------     -----------          ------------

Cash and cash equivalents at end of period          $  482,090     $ 1,006,636          $    550,670
                                                    ==========     ===========          ============
</TABLE>

                     SEE ACCOMPANYING NOTES TO FINANCIAL STATEMENTS

                                         F-6

<PAGE>


<TABLE>
<CAPTION>
                                       LIFEWAY FOODS, INC. AND SUBSIDIARIES
                                       CONSOLIDATED STATEMENTS OF CASH FLOWS


                                                               (Unaudited)
                                                        For the three months ended        For the year ended
                                                                March 31,                     December 31,
                                                        --------------------------
                                                            1998           1997                   1997
                                                        -----------    -----------            ------------
<S>                                                     <C>            <C>                    <C> 

Supplemental disclosures of cash flow information:

      Cash paid for interest                            $    26,656    $    36,694            $    124,218
                                                        ===========    ===========            ============

      Cash paid for income taxes                        $   260,000    $    90,000            $    267,996
                                                        ===========    ===========            ============


Supplemental schedule of non-cash financial activities:

      Issuance of common stock in exchange
         for consulting fees                            $         0    $         0            $     21,562
                                                        ===========    ===========            ============

 















                   SEE ACCOMPANYING NOTES TO FINANCIAL STATEMENTS

                                      F-7



<PAGE>


                        LIFEWAY FOODS, INC. AND SUBSIDIARIES
                     NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                    MARCH 31, 1998 AND 1997 AND DECEMBER 31, 1997


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  produces  Kefir,  a drinkable  product which is
         similar to but distinct  from yogurt in several  flavors sold under the
         name "Lifeway's  Kefir";  a line of drinkable  yogurt; a plain farmer's
         cheese sold under the name  "Lifeway's  Farmer's  Cheese";  and a fruit
         sugar-flavored  product  similar in  consistency  to cream  cheese sold
         under the name of "Sweet Kiss." The Company  currently  distributes its
         products  throughout the Chicago  metropolitan  area through local food
         stores. In addition, the products are sold throughout the United States
         and Ontario,  Canada. The Company also distributes some of its products
         internationally  by  exporting to Eastern  Europe.  For the years ended
         December   31,  1997  and  1996  export   sales  of  the  Company  were
         approximately $ 381,000 and $ 414,000, respectively.

         In 1992, the Company formed Lifeway  International,  Inc.  ("LII") as a
         majority-owned   subsidiary  to  facilitate  the  distribution  of  its
         products  to Eastern  Europe.  The Company is  considering  merging the
         operations  of LII  into  the  operations  of the  Company  in  1998 to
         simplify the exporting of its products.

         On September 30, 1992,  the Company  formed a  wholly-owned  subsidiary
         corporation, LFI Enterprises, Inc., (LFIE) incorporated in the State of
         Illinois.  LFIE was formed for the  purpose of  operating  a  "Russian"
         theme  restaurant  and  supper  club on the  property  acquired  by the
         Company  on  October  9,  1992.The   restaurant/supper   commenced  its
         operations in late November 1992.

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  and  majority  owned  subsidiaries.  All
         significant   intercompany   accounts   and   transactions   have  been
         eliminated.

                                

<PAGE>


                        LIFEWAY FOODS, INC. AND SUBSIDIARIES
                      NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                     MARCH 31, 1998 AND 1997 AND DECEMBER 31, 1997


Note 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - Continued

         Use of Estimates

         The  preparation of financial  statements in conformity  with generally
         accepted  accounting  principles  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.

         Cash Equivalents

         All highly liquid investments purchased with a maturity of three months
         or less are considered to be cash equivalents.

         The Company  maintains  cash  deposits at several  banks located in the
         greater Chicago,  Illinois metropolitan area. Deposits at each bank are
         insured by the Federal Deposit Insurance Corporation up to $100,000.

         Bank  balances  of  amounts  reported  by  financial  institutions  are
         categorized as follows at December 31, 1997:

         Amounts insured by FDIC                                   $    227,910
         Uninsured and uncollateralized amounts                         507,524
                                                                   ------------
         Total bank balances                                       $    735,434
                                                                   ============

         Investments

         The Company's investments include certificates of deposit with maturity
         dates  greater  than  three  months,  which  are  all  short  term  and
         held-to-maturity.  Securities classified as held-to-maturity are stated
         at  cost  adjusted  for  amortization  of  premiums  and  accretion  of
         discounts.  At December 31, 1997, cost  approximated  market value. The
         Company  does not  currently  have any  trading  or  available-for-sale
         securities.

         Inventory

         Inventories  are  stated  at  lower  of  cost  or  market,  cost  being
         determined by the first-in, first-out method.


                                  
<PAGE>


                       LIFEWAY FOODS, INC. AND SUBSIDIARIES
                      NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                     MARCH 31, 1998 AND 1997 AND DECEMBER 31, 1997

Note 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - Continued

         Property and Equipment

         Property and equipment are stated at lower of cost or realizable value.
         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.

         Property and equipment are being  depreciated over the following useful
         lives:

                  Category                                            Years

                  Buildings and improvements                        31 and 39
                  Machinery and equipment                                5-12
                  Office equipment                                        5-7
                  Vehicles                                                  5

         Intangible Assets

         Intangible  Assets  are  stated  at cost  and are  amortized  over  the
         estimated useful lives of the assets using the straight-line  method as
         follows:

                  Covenant not to compete                           10 years
                  U.P.C. Codes                                       7 years
                  Organization costs                                 5 years





                           
     
<PAGE>


                        LIFEWAY FOODS, INC. AND SUBSIDIARIES
                     NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                    MARCH 31, 1998 AND 1997 AND DECEMBER 31, 1997


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  noncurrent,  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  noncurrent  depending on the periods in which
         the temporary differences are expected to reverse.

         The   principal   sources  of  temporary   differences   are  different
         depreciation   methods  for  financial   statement  and  tax  purposes,
         capitalization  of indirect  costs for tax  purposes,  use of allowance
         method for book  purposes  verses the direct method for tax purposes as
         to bad debts.

         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 year. For the year ended December
         31, 1997 and 1996,  diluted and basic earnings per share were the same,
         as the  effect  of  dilutive  securities  options  outstanding  was not
         significant.

         Change in Accounting Principle

         In June 1997, the Financial  Accounting  Standards  Board (FASB) issued
         Statements  of  Financial  Accounting  Standards  No.  130,  "Reporting
         Comprehensive  Income"  (SFAS  130)  and No.  131,  "Disclosures  about
         Segments  of  an  Enterprise  and  Related  Information."  The  Company
         required  adoption  date is  January  1,  1998.  SFAS  130  establishes
         standards for the reporting and display of comprehensive  income.  SFAS
         131 establishes reporting  requirements for information about operating
         segments.  The  Company  anticipates  adoption of SFAS 130 and SFAS 131
         will not have a material impact on its financial statements.


                            


<PAGE>


                       LIFEWAY FOODS, INC. AND SUBSIDIARIES
                     NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                    MARCH 31, 1998 AND 1997 AND DECEMBER 31, 1997

Note 3 - INVENTORIES

         Inventories consisted of the following:

                                       (Unaudited)
                                 For the three months ended   For the year ended
                                        March 31,                December 31,
                                 --------------------------
                                    1998            1997              1997
                                 ---------      -----------      ------------

          Finished goods         $  305,993     $   285,291      $    314,993
          Production supplies       138,527          84,088           138,527
          Raw materials             160,502          53,901           160,502
                                 ----------     -----------      ------------
                                 $  605,022     $   423,280      $    614,022
                                 ==========     ===========      ============


Note 4 - PROPERTY AND EQUIPMENT

Property and equipment consisted of the following:
                                         (Unaudited)
                                  For the three months ended  For the year ended
                                         March 31,               December 31,
                                  --------------------------
                                      1998          1997             1997
                                  ----------     -----------     -----------

     Land                         $  658,400     $   658,400     $   658,400
     Buildings and improvement     1,602,395       1,649,370       1,567,574
     Machinery and equipment       2,816,652       1,473,083       2,779,201
     Vehicles                        119,770         109,877         113,885
     Office equipment                 82,352          56,972          80,231
                                 -----------     -----------     -----------
                                 $ 5,279,569     $ 3,947,702     $ 5,199,291
                                 ===========     ===========     ===========

         Depreciation charged to income for the three months ended March 31, 
         1998 and 1997 was $44,418, and $87,869 respectively, and $234,050 for
         the year ended December 31, 1997.

         During 1996,  the Company  acquired  land,  building and  machinery for
         $1,350,000.  A mortgage  note  payable  was  signed  for  approximately
         $920,000,  related  to this  acquisition  (see  Note  5).  The  Company
         continued  to rent the  building  to the former  tenant and  recognized
         approximately  $214,058  and  $59,000  of rent  during  1997 and  1996,
         respectively, included in other income.


                            

<PAGE>

                       LIFEWAY FOODS, INC. AND SUBSIDIARIES
                     NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                    MARCH 31, 1998 AND 1997 AND DECEMBER 31, 1997

Note 5 - NOTES PAYABLE

</TABLE>
<TABLE>
<CAPTION>
                                                          (Unaudited)
                                                    For the three  months ended   For the year ended
                                                            March 31,                December 31,
                                                    ---------------------------
                                                       1998            1997              1997
                                                    ----------     ----------        ------------
<S>                                                 <C>            <C>               <C>
  Mortgage note payable, 1st National Bank of 
    Morton Grove, payable in monthly installments
    of $2,548, including interest at 7.5%, with a
    balloon payment of $184,900 due November 1998.
    Collateralized by real estate.                  $  193,108     $  209,820        $  197,106

  Mortgage note payable, American National Bank
    and Trust Company of Chicago, payable in 
    monthly installments of $4,498 including 
    interest at 6.75%, with a balloon payment 
    of $394,000 due August 1998. Collaterlized 
    by real estate.                                    408,647        433,663           416,220

  Mortgage note payable, American National Bank 
    and Trust Company of Chicago, payable in 
    monthly installments of principal of $5,109
    plus interest at 8.05%, with a balloon 
    payment of $618,214 due November 2001.
    Collateralized by real estate.                     843,010        904,318           858,339

  Note payable, Glenview State Bank, payable in
    monthly installments of $460, including 
    interest at 6.25%, due March, 1998.  
    Collateralized by automobile.                          458          5,769             1,816
                                                    ----------     ----------        ----------

           Total                                    $1,445,223     $1,553,570        $1,473,481
                                                  ===========      ===========        ===========
</TABLE>



                           
<PAGE>


                       LIFEWAY FOODS, INC. AND SUBSIDIARIES
                     NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                    MARCH 31, 1998 AND 1997 AND DECEMBER 31, 1997


Note 5 - NOTES PAYABLE - Continued

                                         (Unaudited) 
                                 For the three months ended   For the year ended
                                          March 31,               December 31,
                                 -------------------------- 
                                   1998           1997               1997
                                 ----------     ----------        ------------

Less current maturities             668,630        106,869             681,561
                                 ----------     ----------        ------------

     Total                       $  776,593     $1,446,701         $   791,920
                                 ==========     ==========        ============


     Maturities of notes payable are as follows:

        Year Ending December 31,
                         1998                                      $  681,561
                         1999                                          61,308
                         2000                                          61,308
                         2001                                         669,304
                                                                   ----------

                        Total                                      $1,473,481
                                                                   ==========




<PAGE>


                      LIFEWAY FOODS, INC. AND SUBSIDIARIES
                     NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                    MARCH 31, 1998 AND 1997 AND DECEMBER 31, 1997


Note 6 - PROVISION FOR INCOME TAXES

      The provision for income taxes consists of the following:

                                         (Unaudited)
                                  For the three months ended  For the year ended
                                          March 31,               December 31,
                                  --------------------------
                                      1998           1997             1997
                                  -----------     ----------      ------------
 Current
   Federal                        $   118,948     $  106,118      $    369,507
   State                               26,986         24,292            82,353
                                  -----------     ----------      ------------
 Total current                        145,934        130,410           451,860
 Deferred                                   0              0            24,942
                                  -----------     ----------      ------------

 Provision for income taxes       $   145,934     $  130,410      $    476,802
                                  ===========     ==========      ============

      A  reconciliation  of the provision for income taxes and the income tax
      computed at the statutory rate is as follows:

                                         (Unaudited)
                                  For the three months ended  For the year ended
                                          March 31,               December 31,
                                     1998            1997            1997
                                  ----------     -----------      -----------
 Federal income tax expense
   computed at the statutory rate $  118,522     $   106,118      $   399,596
 State taxes, expense                 26,986          24,292           58,764
 Permanent book/tax difference             0               0           18,442
                                  ----------     -----------      -----------
 Provision for income taxes       $  145,934     $   130,410      $   476,802
                                  ==========     ===========      ===========



<PAGE>


                         LIFEWAY FOODS, INC. AND SUBSIDIARIES
                      NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                    MARCH 31, 1998 AND 1997 AND DECEMBER 31, 1997


Note 6 - PROVISION FOR INCOME TAXES - Continued

         Amounts for deferred tax assets and liabilities as of December 31, 1997
         are as follows:

     Non-current deferred tax liabilities arising from:
        Temporary differences - principally
           Book/tax, accumulated depreciation                 $     82,012
           Book/tax, accumulated amortization                      ( 2,772)
                                                              ------------
        Total deferred tax liabilities                              79,240

     Current deferred tax assets arising from:
        Book/tax, allowance for doubtful accounts             $     22,176
           Book/tax, inventory                                      37,178
                                                              ------------
        Total deferred tax assets                                   59,354
                                                              ------------

        Net deferred tax liability                            $     19,886
                                                              ============


Note 7 - CUSTOMER AND CREDIT CONCENTRATIONS

Concentrations  of credit with regard to trade  accounts  receivable,  which are
uncollateralized,  and sales are limited due to the fact the Company's customers
are spread across different  geographic areas. The customers are concentrated in
the retail food  industry.  Two  customers  accounted  for 9.8% and 9.6% of 1997
sales and 12.7% and 22.2% of trade accounts  receivable as of December 31, 1997,
respectively.

Note 8 -  INTANGIBLE ASSETS

         Intangible assets consisted of the following at Decemnber 31, 1997:

           Covenant Not to Compete                            $     50,000
           UPC Codes                                               200,000
           Organization Costs                                       44,343
                                                              ------------
                                                                   294,343
           Less:  Accumulated amortization                         270,477
                                                              ------------
                                                              $     23,866
                                                              ============

         Total  amortization  charged  against income for the three months ended
         March  31,  1998 and 1997 was  $3,468  and  $10,611  respectively,  and
         $42,441 for the year ended December 31, 1997.



<PAGE>



                          LIFEWAY FOODS, INC. AND SUBSIDIARIES
                       NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                      MARCH 31, 1998 AND 1997 AND DECEMBER 31, 1997


Note 9 - BUSINESS SEGMENT INFORMATION

         The Company's  significant  business segments include the sale of dairy
         products and the  operations  of a  restaurant.  "Corporate  and other"
         includes  revenues and  expenses of the  company's  export  subsidiary,
         general corporate expenses,  interest expense, and interest income. The
         Company's  operations,  by  business  segment  for 1997 and 1996 are as
         follows:

                           Dairy                        Corporate
         1997            Products      Restaurant     & Other    Consolidated
         ----            --------      ----------    ---------   ------------
  Sales                $  5,612,930   $   347,948    $       0   $  5,960,878
  Net Income           $    750,564   $  ( 38,400)   $ (11,847)  $    700,317
  Identifiable Assets  $  6,056,942   $   119,261    $  56,295   $  6,232,498
  Depreciation and
    Amortization       $    257,073   $    10,548    $   8,870   $    276,491
  Capital Additions    $  1,272,760   $         0    $       0   $  1,272,760

         1996
         ----
  Sales                $  4,863,339   $   432,066    $       0   $  5,295,405
  Net Income           $    558,134   $    65,080    $  (5,446)  $    617,768
  Identifiable Assets  $  5,054,029   $   114,878    $  90,731   $  5,259,638
  Depreciation and
    Amortization       $    223,210   $    11,129    $   8,869   $    243,208
  Capital Additions    $  1,401,494   $         0    $       0   $  1,401,494


Note 10 - STOCK OPTION PLANS

         The Company has a registration  statement filed with the Securities and
         Exchange   Commission   in   connection   with  a  Consulting   Service
         Compensation  Plan covering up to 300,000 of the Company's Common Stock
         shares.  Pursuant to the Plan,  the Company may issue  Common  Stock or
         option  to  purchase  Common  Stock  to  certain  consultants,  service
         providers and employees of the Company.

         The option price, number of shares and grant date are determined at the
         discretion of the Company's  Board of Directors and are considered 100%
         vested at the grant date. Options issued under the plan expire June 30,
         2000.



<PAGE>


Note 10 - STOCK OPTION PLANS - Continued

         The fair value of each option  grant is  estimated on the date of grant
         using  the  Black-Scholes   option-pricing  model  with  the  following
         weight-average  assumptions  used  for  grants:  dividend  yield of 0%,
         expected  volatility  of 54%,  risk-free  interest  rate of  6.2%,  and
         expected  lives of three  years.  The  weighted-average  fair  value of
         options granted during 1997 was $1.48 per share.

         The  Company  has chosen to account  for  stock-based  compensation  in
         accordance  with APB Opinion 25. If  compensation  cost would have been
         recognized  in  accordance  with  Statement  of  Financial   Accounting
         Standards  No.  123,   "Accounting   for   Stock-Based   Compensation,"
         compensation  cost would have increased by approximately  $81,000,  net
         income would have been reduced by  approximately  $48,000 in 1997,  and
         earnings per share would have been reduced by $0.01.

         A summary of option  transactions  during the year ended  December  31,
         1997 is shown below:

                                                     Number     Weighted-Average
                                                       of           Exercise
                                                     Shares           Price
                                                     ------     ----------------
  Outstanding and exercisable at January 1, 1997        ---            N/A
  Granted                                            55,000           $5.00
  Exercised                                             ---            5.00
  Forfeited                                             ---             ---
  Expired                                               ---             ---
  Outstanding and exercisable at December 31, 1997   55,000            5.00
                                                    =======

  Available for issuance at December 31, 1997       245,000
                                                    =======
  
         Additionally,  during 1997,  the Company  issued 3,900 shares of common
         stock in exchange for services valued at $21,562.

Note 11 - FAIR VALUE OF FINANCIAL INSTRUMENTS

         The estimated fair values of the Company's financial instruments,  none
         of which are held for trading purposes,  are as follows at December 31,
         1997:

                                             Carrying                Fair
                                              Amount                 Value
                                           -----------            -----------
    Cash and cash equivalents              $   550,670            $   550,670
    Certificates of deposit                    227,622                227,622
    Note payable to bank                         1,816                  1,816
    Mortgages payable                        1,471,665              1,446,985
    Total                                  $ 2,251,773            $ 2,227,093
                                           ===========            ===========




<PAGE>


                      LIFEWAY FOODS, INC. AND SUBSIDIARIES
                     NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                    MARCH 31, 1998 AND 1997 AND DECEMBER 31, 1997


Note 11 - FAIR VALUE OF FINANCIAL INSTRUMENTS - Continued

The carrying  values of cash and cash  equivalents,  certificates of deposit and
the note payable to bank approximate fair values. The fair value of the mortgage
payable is based on the discounted value of contractual cash flows. The discount
rate  is  estimated  using  rates  currently   offered  for  debt  with  similar
maturities.






<PAGE>



Item 2.  Management's Discussion and Analysis of Financial Condition and Results
         of Operations

(1)      Material Changes in Results of Operations

         Net income  increased  by $21,969,  up to $230,899  for the three month
period ending March 31, 1998,  from $208,930  during the same three month period
in 1997. The material components of this increase are detailed as follows:

         Sales  and  cost of goods  sold  increased  by  $216,704  and  $31,421,
respectively,  up to  $1,630,568  and $692,302,  respectively,  during the three
month period ending March 31, 1998, from $1,413,864 and $660,881,  respectively,
during the same three month period in 1997.  These increases are attributable to
increased sales of existing products.

Operating  expenses  increased  by $80,171,  up to $543,876  for the three month
period ending March 31, 1998,  from $463,705  during the same three month period
in 1997. This increase is primarily  attributable to increased expenses incurred
in connection with the operation of the new production facility.

         Other income was $-0- for the three month period ending March 31, 1998,
compared to $74,373 for the same three month period in 1997. The other income in
1997 is  attributable to the receipt of rent revenues from a tenant who occupied
the real property  that was acquired by the Company in 1996.  The Company is now
occupying the property for its own use.

(2)      Liquidity and Capital Resources

         As of the three month period  ending March 31, 1998, as compared to the
three month period ending March 31, 1997, the Company had working capital in the
amount of  $972,892  as  compared  to  $1,936,860,  respectively,  a decrease of
$963,968; and cash on hand in the amounts of $482,090 as compared to $1,006,636,
respectively, a decrease of $524,546. These decreases are primarily attributable
to increased costs in connection with the new production facility, including the
purchase of additional  equipment and a build-up of  inventories.  Additionally,
there was a decrease in long-term  liabilities and a  corresponding  increase in
current  liabilities  due to the upcoming  maturities of several  mortgage notes
payable,  which will be due in 1998.  The Company  intends to  refinance  all of
these mortgages during 1998.

         The  Company's  balance  in  inventory  increased  by  $181,742,  up to
$605,022 as of March 31, 1998, as compared to $423,280 as of March 31, 1997. The
increase is primarily due to an increase in production and sales.

         There was a net  decrease of $68,580 in cash and cash  equivalents  for
the three months ended March 31, 1998,  as compared to a net increase of $10,535
in cash and cash  equivalents for the same period in 1997. This is primarily due
to the use of cash in 1998 to 1)  decrease  balances  in  operating  liabilities
accounts  (accounts  payable  and  accrued  expenses),  partially  offset  by  a
decreased balance in operating assets (primarily  accounts  receivable),  and 2)
purchase property and equipment.



<PAGE>


         The  Company is not aware of any  circumstances  or trends  which would
have a  negative  impact  upon  future  sales or  earnings.  There  have been no
material  fluctuations  in the standard  seasonal  variations  of the  Company's
business. The accompanying financial statements include all adjustments which in
the  opinion  of  management  are  necessary  in  order  to make  the  financial
statements not misleading.





<PAGE>


                            PART II - OTHER INFORMATION

Item 1.  Legal Proceedings - None.

Item 2.  Changes in Securities - None.

Item 3.  Defaults upon Senior Securities - None.

Item 4.  Submission of Matters to a Vote of Securities Holders - None.

Item 5.  Other Information - None.

Item 6.  Exhibits and Reports on Form 8-K

(a)      Exhibits:  Exhibit Number and Brief Description

         3.1      Articles of Incorporation of issuer, with Certificate, 
                  and Amendments. (1)
         3.2      Bylaws of issuer. (1)
         3.3      Corrected Amendment to the Bylaws of issuer. (1)
         10.1     Lifeway Foods, Inc. Consulting and Services Compensation Plan,
                  dated June 5, 1995. (2)
         10.9     Real Estate Sales Contract, dated April 24, 1996, to purchase
                  a 110,000 square foot parcel of real property, zoned 
                  industrial, in Morton Grove, Illinois. (3)
         27       Financial Data Schedule. (4)

         ------------------------------
         footnotes:

(1)      Incorporated by reference to the issuer's registration statement on 
         Form S-18 (File No. 33-14329-C), and Post-Effective Amendments thereto.
(2)      Incorporated by reference to the issuer's registration statement on
         Form S-8 (File No. 33-93306).  
(3)      Incorporated by reference to the issuer's Quarterly Report on Form 
         10-QSB for the period ended March 31, 1996.
(4)      Filed herewith.


(b)      Reports on Form 8-K - None.



<PAGE>



                                 SIGNATURES

         In accordance  with the  requirements  of the Exchange Act, the Company
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.


                               LIFEWAY FOODS, INC.


                               By:  /s/ Michael Smolyansky
                                    ----------------------
                                    Michael Smolyansky, Chief Executive Officer,
                                    Chief Financial and Accounting Officer,
                                    President, Treasurer and Director

Date:   May 11, 1998




<PAGE>



                                 EXHIBIT INDEX

NUMBER         BRIEF DESCRIPTION

3.             Articles of Incorporation of issuer, with Certificate, and
               Amendments. (1)

3.2            Bylaws of issuer. (1)

3.3            Corrected Amendment to the Bylaws of issuer. (1)

10.1           Lifeway Foods, Inc. Consulting and Services Compensation Plan,
               dated June 5, 1995. (2)

10.9           Real Estate Sales Contract,  dated April 24, 1996, to purchase
               a  110,000  square  foot  parcel  of  real   property,   zoned
               industrial, in Morton Grove, Illinois. (3)

27             Financial Data Schedule. (4)

     --------------------------

(1) Incorporated by reference to the issuer's registration statement on Form 
    S-18 (File No. 33-14329-C), and Post-Effective Amendments thereto.

(2) Incorporated by reference to the issuer's registration statement on Form S-8
    (File No. 33-93306).

(3) Incorporated by reference to the issuer's Quarterly Report on Form 10-QSB 
    for the period ended March 31, 1996.

(4) Filed herewith.