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 June 30, 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 of                (IRS Employer Identification No.)
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 August 10, 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
         June 30, 1997 and 1996

           Consolidated Balance Sheets
           December 31, 1997 and
           June 30, 1998 and 1997                                   F-2 - F-3

           Consolidated Statements of Income
           for the year ended December 31, 1997 and
           for the three months ended June 30, 1998 
              and 1997 (unaudited)
           for the six months ended June 30, 1998 
              and 1997 (unaudited)                                    F-4

           Consolidated Statements of Changes in 
              Stockholders' Equity
           for the year ended December 31, 1997 and
           for the six months ended June 30, 1998 
              and 1997 (unaudited)                                    F-5

           Consolidated Statements of Cash Flows
           for the year ended December 31, 1997 and
           for the six months ended June 30, 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
                           JUNE 30, 1998 AND 1997




<PAGE>


                    LIFEWAY FOODS, INC. AND SUBSIDIARIES
                         CONSOLIDATED BALANCE SHEET

<TABLE>
<CAPTION>

                                                              (Unaudited)
                                                                June 30,                  December 31,
                                                     -------------------------------
ASSETS                                                    1998              1997              1997
                                                     -------------     -------------    ---------------
<S>                                                  <C>               <C>              <C> 

Current Assets
     Cash and cash equivalent                        $     584,051     $     774,667    $       550,670
     Investments                                           234,248           220,009            227,622
     Accounts receivable, net of allowance
         for doubtful accounts of  $48,000 at
         June 30, 1998 and 1997 and
         December 31, 1997                                 881,799           772,327            818,245
     Other receivables                                      16,200            15,200             15,200
     Inventories                                           696,000           581,431            614,022
     Prepaid expenses and other assets                       3,406             7,714              7,714
     Deferred income taxes                                  17,936            41,418             59,354
                                                     -------------     -------------    ---------------

     Total current asset                                 2,433,640         2,412,766          2,292,827

Property and Equipment
     Land                                                  658,400           658,400            658,400
     Buildings, machinery and equipment                  4,764,135         3,793,191          4,540,891
                                                     -------------     -------------    ---------------
     Total property and equipment                        5,422,535         4,451,591          5,199,291
     Less:  accumulated depreciation                     1,459,224         1,158,372          1,283,486
                                                     -------------     -------------    ---------------
     Property and equipment, net                         3,963,311         3,292,819          3,915,805

Other Assets
     Intangible assets                                     330,343           330,343            330,343
     Less:  accumulated amortization                       313,413           285,257            306,477
                                                     -------------     -------------    ---------------
     Total other assets                                     16,930            45,086             23,866
                                                     -------------     -------------    ---------------

Total Assets                                         $   6,413,881     $   5,751,071    $     6,232,498
                                                     =============     =============    ===============

</TABLE>




                   SEE ACCOMPANYING NOTES TO FINANCIAL STATEMENTS

                                      F-2


<PAGE>


                      LIFEWAY FOODS, INC. AND SUBSIDIARIES
                           CONSOLIDATED BALANCE SHEET



<TABLE>
<CAPTION>
LIABILITIES AND STOCKHOLDERS' EQUITY
                                                            (Unaudited)
                                                              June 30,              December 31,
                                                      1998               1997           1997
                                                  ------------      ------------   --------------
<S>                                               <C>               <C>            <C>  
Current Liabilities
     Current maturities of notes payable          $    652,995      $    111,170   $      681,561
     Accounts Payable                                  331,701           337,188          394,390
     Accrued expenses                                  318,324           243,755          429,197
                                                  ------------      ------------   --------------
     Total current liabilities                       1,303,020           692,113        1,505,148


Long-Term Liabilities
     Notes payable                                     771,483         1,415,985          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                               2,924,058         2,250,675        2,478,692
     Treasury Stock                                   (18,818)          (18,818)         (18,818)
                                                  ------------      ------------    -------------
     Total stockholders' equity                      4,301,556         3,606,611        3,856,190
                                                  ------------      ------------    -------------

Total Liabilities and Stockholders' Equity        $  6,413,881      $  5,751,071    $   6,232,498
                                                  ============      ============    =============
</TABLE>





                 SEE ACCOMPANYING NOTES TO FINANCIAL STATEMENTS

                                     F-3


<PAGE>

                       LIFEWAY FOODS, INC. AND SUBSIDIARIES
                         CONSOLIDATED STATEMENTS OF INCOME


<TABLE>
<CAPTION>

                                           (Unaudited)                  (Unaudited)          
                                   For the three months ended      For the six months ended       For the
                                             June 30,                     June 30,               year ended
                                   ---------------------------   ----------------------------   December 31,
                                       1998            1997           1998            1997          1997
                                   ------------   ------------   ------------    ------------   ------------
<S>                                <C>            <C>            <C>             <C>            <C>  
Sales                              $  1,694,424   $  1,473,984   $  3,324,992    $  2,887,848   $  5,960,878

Cost of goods sold                      707,061        662,052      1,399,363       1,322,933      3,434,605
                                   ------------   ------------   ------------    ------------   ------------

Gross Profit                            987,363        811,932      1,925,629       1,564,915      2,526,273

Operating Expenses                      625,683        488,173      1,169,559         951,878      1,486,338
                                   ------------   ------------   ------------    ------------   ------------


Income from operations                  361,680        323,759        756,070         613,037      1,039,935

Other income (expense)
     Interest income                     10,409         13,456         19,508          25,869         47,344
     Interest expense                  (22,004)       (29,635)       (48,660)        (66,329)      (124,218)
     Other Income                             0        123,965              0         198,308        214,058
                                   ------------  -------------   ------------    ------------   ------------
     Total other income
     (expense)                         (11,595)        107,786       (29,152)         157,848        137,184
                                   ------------  -------------   ------------    ------------   ------------

Income before income taxes              350,085        431,545        726,918         770,885      1,177,119

Provision for income taxes              135,618         68,175        281,552         298,585        476,802
                                   ------------  -------------   ------------    ------------   ------------

Net Income                         $    214,467  $     263,370   $    445,366    $    472,300   $    700,317
                                   ============  =============   ============    ============   ============

Earnings per share                 $        .06  $         .07   $        .12    $        .13   $        .19
                                   ============  =============   ============    ============   ============

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

</TABLE>


                 SEE ACCOMPANYING NOTES TO FINANCIAL STATEMENTS

                                     F-4

<PAGE>


                      LIFEWAY FOODS, INC. AND SUBSIDIARIES
           CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
 

<TABLE>
<CAPTION>
                               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 exhanged 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 six months
     ended June 30, 1998                        0             0              0             0         445,366
                               ------------------     ---------    -----------  ------------     -----------

Balances at
     June 30, 1998                      3,789,277        10,400    $ 1,396,316  $     18,818     $ 2,924,058
                               ==================     =========    ===========  ============     ===========
</TABLE>




                 SEE ACCOMPANYING NOTES TO FINANCIAL STATEMENTS

                                      F-5


<PAGE>


                       LIFEWAY FOODS, INC. AND SUBSIDIARIES
                      CONSOLIDATED STATEMENTS OF CASH FLOWS

<TABLE>
<CAPTION>
                                                                   (Unaudited)
                                                             For the six months ended         For the year ended
                                                                     June 30,                      December 31
                                                               1998               1997               1997
                                                           ------------     ------------      ------------------
<S>                                                        <C>              <C>               <C>  
Cash flows from operating activities:
     Net income                                            $    445,366     $    472,300        $    700,317
     Adjustments to reconcile net income to net
         cash flows from operating activities:
              Depreciation and amortization                     182,674          110,057             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                              (63,554)        (151,919)           (197,837)
              Other receivable                                  (1,000)            8,400               8,400
              Inventories                                      (81,978)        (168,107)           (200,698)
              Prepaid expenses and other assets                   4,308                0                   0
         Increase (decrease) in operating liabilities:
              Accounts payable                                 (62,689)           95,109             152,311
              Accrued expenses                                (110,873)         (28,299)             157,143
                                                           ------------    -------------       -------------
Net cash provided (used) by operating activities                312,254          337,541             942,631

Cash flows from investing activities:
     Purchase of investments                                    (6,626)          (6,338)            (13,951)
     Purchase of property and equipment                       (223,244)        (504,960)         (1,272,760)
                                                           ------------    -------------       -------------
Net cash provided by (used) in
     investing activities                                     (229,870)        (511,298)         (1,286,711)

Cash flows from financing activities:
     Repayments of notes payable                               (49,003)         (47,677)           (101,351)
                                                          -------------    -------------       -------------
Net cash used in financing activities                          (49,003)         (47,677)           (101,351)
                                                          -------------    -------------       -------------

Net increase (decrease) in cash and
     cash equivalents                                            33,381        (221,434)           (445,431)

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

Cash and cash equivalents at end of period              $       584,051    $     774,677       $     550,670
                                                        ===============    =============       =============
</TABLE>

                  SEE ACCOMPANYING NOTES TO FINANCIAL STATEMENTS

                                       F-6

<PAGE>


                        LIFEWAY FOODS, INC. AND SUBSIDIARIES
                        CONSOLIDATED STATEMENTS OF CASH FLOWS

<TABLE>
<CAPTION>

                                                                  (Unaudited)
                                                             For the six months ended        For the year ended
                                                                      June 30,                   December 31
                                                               1998              1997                1997
                                                           -------------   --------------    ------------------
<S>                                                        <C>              <C>              <C>
Supplemental disclosures of cash flow information:

     Cash paid for interest                                $      48,660   $       66,329        $    124,218
                                                           =============   ==============        ============

     Cash paid for income taxes                            $     381,000   $      286,560        $    267,996
                                                           =============   ==============        ============


Supplemental schedule of non-cash financial activities:

     Issuance of common stock in exchange
         for consulting fees                               $           0   $            0        $     21,562
                                                           =============   ==============        ============
</TABLE>



















               SEE ACCOMPANYING NOTES TO FINANCIAL STATEMENTS

                                  F-7


<PAGE>


                     LIFEWAY FOODS, INC. AND SUBSIDIARIES
                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                 JUNE 30, 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  club commenced  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.

     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.



<PAGE>



     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.



                                    F-8

<PAGE>


                     LIFEWAY FOODS, INC. AND SUBSIDIARIES
                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                 JUNE 30, 1998 AND 1997 AND DECEMBER 31, 1997


Note 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - Continued

     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.

     Property and Equipment

     Property  and  equipment  are  stated at lower of cost or  realized  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



<PAGE>



     Intangible Assets

     Intangible  Assets  are  stated at cost and are  amortized  over  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



                                  F-9



<PAGE>


                    LIFEWAY FOODS, INC. AND SUBSIDIARIES
                 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                JUNE 30, 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 otustanding 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  131establishes   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>


Note 3 - INVENTORIES

     Inventories consisted of the following:
                                          (Unaudited)
                                    For the six months ended  For the year ended
                                            June 30,             December 31
                                       1998          1997            1997
                                    ----------   -----------  ------------------

       Finished goods               $  361,000   $   410,478     $    314,993
       Production supplies             170,000        84,088          138,527
       Raw materials                   165,000        86,865          160,502
                                    ----------   -------------   ------------
                                    $  696,000   $   581,431     $    614,022
                                    ==========   ===========     ============




                                     F-10


<PAGE>


                       LIFEWAY FOODS, INC. AND SUBSIDIARIES
                    NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                   JUNE 30, 1998 AND 1997 AND DECEMBER 31, 1997

Note 4 - PROPERTY AND EQUIPMENT

Property and equipment consisted of the following:
                                         (Unaudited)
                                  For the six months ended  For the year ended
                                          June 30,              December 31
                                      1998         1997            1997
                                  -----------  -----------  ------------------

     Land                         $   658,400  $   658,400    $    658,400
     Buildings and improvement      1,649,370    1,649,370       1,567,574
     Machinery and equipment        2,912,643    1,976,971       2,779,201
     Vehicles                         119,770      109,877         113,885
     Office equipment                  82,352       56,972          80,231
                                  -----------  -----------    ------------
                                  $ 5,422,535  $ 4,451,590    $  5,199,291
                                  ===========  ===========    ============

     Depreciation  charged to income for the three and six months ended June 30,
     1998 and 1997 was $ 87,869,  $44,417 , $175,738  and $88,835  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>


Note 5 - NOTES PAYABLE

<TABLE>
<CAPTION>
                                                                       (Unaudited)
                                                                For the six months ended     For the year ended
                                                                       June 30,                 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.                    $     189,058   $    206,071     $    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.                           402,170        427,620          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.                 832,792        888,991          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          4,473            1,816
                                                              -------------   ------------     ------------

         Total                                                $   1,424,478   $  1,527,155     $  1,473,481

</TABLE>


                                   F-11


<PAGE>


                     LIFEWAY FOODS, INC. AND SUBSIDIARIES
                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                 JUNE 30, 1998 AND 1997 AND DECEMBER 31, 1997


Note 5 - NOTES PAYABLE - Continued 

<TABLE>
<CAPTION>
                                                                (Unaudited)
                                                           For the six months ended      For the year ended
                                                                  June 30,                   December 31
                                                      -------------------------------- 
                                                           1998               1997               1997
                                                      ------------        ------------   ------------------
<S>                                                   <C>                 <C>            <C>
Less current maturities                                    652,995             111,170             681,561
                                                      ------------        ------------        ------------

         Total                                         $   771,483         $ 1,415,985        $    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
</TABLE>


Note 6 - PROVISION FOR INCOME TAXES

     The provision for income taxes consists of the following:
<TABLE>
<CAPTION>
                                                                   (Unaudited)
                                                              For the six months ended    For the year ended
                                                                      June 30,               December 31
                                                               1998              1997            1997
                                                          -------------    -------------  ------------------
<S>                                                       <C>              <C>            <C>
     Current
         Federal                                          $     229,431    $     243,308     $     369,507
         State                                                   52,121           55,277            82,353
                                                          -------------    -------------     -------------
     Total current                                              281,552          298,585           451,860
     Deferred                                                         0                0            24,942
                                                          -------------    -------------     -------------

     Provision for income taxes                           $     281,552    $     298,585     $     476,802
                                                          =============    =============     =============
</TABLE>

<PAGE>


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

<TABLE>
<CAPTION>
                                                                   (Unaudited)
                                                             For the six months ended     For the year ended
                                                                    June 30,                   December 31
                                                              1998              1997              1997
                                                          -------------    -------------  ------------------
<S>                                                       <C>              <C>            <C> 
         Federal income tax expense
            computed at the statutory rate                $    229,4318   $      243,308   $       399,596
         State taxes, expense                                    52,121           55,277            58,764
         Permanent book/tax difference                                0                0            18,442
                                                          -------------   --------------   ---------------

         Provision for income taxes                       $     281,552   $      298,585   $       476,802
                                                          =============   ==============   ===============
</TABLE>




                                  F-12


<PAGE>


                   LIFEWAY FOODS, INC. AND SUBSIDIARIES
                 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                JUNE 30, 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 9 -  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
       Accumulated amortization                                          270,477
                                                                       ---------
                                                                       $  23,866
                                                                       =========

     Total  amortization  charged  against  income  for the three and six months
     ended  June 30,  1998 and 1997 was  $3,468,  $10,611,  $6,935  and  $21,222
     respectively, and $42,441 for the year ended December 31, 1997.


                                    F-13

<PAGE>


                     LIFEWAY FOODS, INC. AND SUBSIDIARIES
                  NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                 JUNE 30, 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:

<TABLE>
<CAPTION>
                                             Dairy                           Corporate
       1997                                 Products        Restaurant        & Other        Consolidated
     ---------                           ------------     -------------     ------------     ------------
<S>                                      <C>              <C>               <C>              <C> 
 
    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
     ---------
     Sale                                $  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
</TABLE>


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>


     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.






                                  F-14


<PAGE>

                     LIFEWAY FOODS, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                  JUNE 30, 1998 AND 1997 AND DECEMBER 31, 1997


Note 10 - STOCK OPTION PLANS - Continued

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

<TABLE>
<CAPTION>
                                                                Number          Weighted-Average
                                                                  of                Exercise
                                                                Shares                Price
                                                              ---------         ----------------
<S>                                                            <C>              <C>  
     Outstanding and excerisable at January 1, 1997                 ---                   N/A
     Granted                                                     55,000                 $5.00
     Excerised                                                      ---                 $5.00
     Forfeited                                                      ---                   ---
     Expired                                                        ---                   ---
                                                              ---------         ----------------
     Outstanding and excerisable at December 31, 1997            55,000                 $5.00
                                                              =========

     Available for issuance at December 31, 1997                245,000
                                                              =========
</TABLE>

     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 value 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
                                           ===========               ===========

     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.


                                      F-15

<PAGE>


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

(1)  Material Changes in Results of Operations

     Net income for the six month  period  ending  June 30,  1998 was  $445,366,
compared to  $472,300  during the same six month  period in 1997,  a decrease of
$26,934.  Although sales increased for the current  period,  they were offset by
increased  operating  expenses  and a decrease  in other  income.  The  material
components of the decrease in net income are detailed as follows:

     Sales increased by $437,144,  up to $3,324,992  during the six month period
ending June 30, 1998, from $2,887,848  during the same six month period in 1997.
Cost of goods sold increased by $76,430,  up to $1,399,363  during the six month
period ending June 30, 1998, from $1,322,933 during the same six month period in
1997. These increases are attributable to increased sales of existing products.

     Operating  expenses  increased by $217,678,  up to  $1,169,556  for the six
month  period  ending June 30,  1998,  from  $951,878  during the same six 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 six  month  period  ending  June 30,  1998,
compared to $198,308 for the same six 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 six month  period  ending June 30,  1998,  as compared to the six
month period ending June 30, 1997, the Company had working capital in the amount
of $1,130,620 as compared to $1,720,653,  respectively,  a decrease of $590,033;
and  cash  on  hand  in  the  amounts  of  $584,051  as  compared  to  $774,667,
respectively, a decrease of $190,616. 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 $114,569, up to $696,000 as
of June 30, 1998,  as compared to $581,431 as of June 30, 1997.  The increase is
primarily due to an increase in production and sales.

     Net cash used in  investing  activities  for the six months  ended June 30,
1998 was  $229,870,  as  compared to  $511,298  for the same  period in 1997,  a
decrease of $281,428.  The use of cash in both  periods is primarily  due to the
purchase of property and equipment for use in the new production facility.

     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

     The  Company  held its Annual  Meeting  of  Stockholders  on May 16,  1998.
Proxies were  solicited  pursuant to Regulation  14A under the Exchange Act, and
the  election of  directors  was  uncontested.  The  matters  voted upon and the
results thereof were as follows:

     1.       Election  of  Directors  to serve  until the next  meeting and
              until their successors are duly elected and qualified:

                                                For                     Withheld
                                                ---                     --------

              Michael Smolyansky                3,680,803                 12,474
              Pol Sikar                         3,680,803                 12,474
              Rick D. Salm                      3,680,803                 12,474
              Renzo Berenardi                   3,678,503                 14,774

     2.       Ratification  of  Gleeson,  Sklar,  Sawyers &  Cumpata  LLP as
              independent auditors for the next fiscal year:

              For                        Against                        Abstain
              ---                        -------                        -------

              3,675,833                  14,892                         2,552

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)
         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). 
         (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:   August 13, 1998


<PAGE>



                              EXHIBIT INDEX

NUMBER      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)

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).

     (4)  Filed herewith.