** **

**UNITEDSTATESSECURITIES AND EXCHANGE COMMISSION**

**WASHINGTON,DC 20549**

 

##### **FORM10-Q**

 
| **(MARK ONE)** |
|----------------|
| ** **     | ** ** | ** ** |
| **ý**     | ** ** | **QUARTERLY  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934  FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2006.** |
| ** **     | ** ** | ** ** |
| **OR**         |
| ** **     | ** ** | ** ** |
| **o**          | ** ** | **TRANSITION REPORT PURSUANT TO  SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION  PERIOD  FROM               TO                .** |

 

**COMMISSIONFILE NUMBER 1-13627**

 

**APEX SILVER MINES LIMITED**

(EXACT NAME OFREGISTRANT AS SPECIFIED IN ITS CHARTER)

 

| **CAYMAN  ISLANDS, BRITISH WEST INDIES**                                                       | ** ** | **NOT  APPLICABLE**                   |
|------------------------------------------------------------------------------------------------|------------|---------------------------------------|
| (STATE OR OTHER  JURISDICTION OF  INCORPORATION OR ORGANIZATION)                               |       | (I.R.S. EMPLOYER  IDENTIFICATION NO.) |
|                                                                                           |       |                                  |
| **WALKER  HOUSE  MARY STREET  GEORGE TOWN, GRAND CAYMAN  CAYMAN ISLANDS, BRITISH WEST INDIES** | ** ** | **NOT  APPLICABLE**                   |
| (ADDRESS OF  PRINCIPAL EXECUTIVE OFFICES)                                                      |       | (ZIP CODE)                            |

 

**(345)949-0050**(REGISTRANT’S TELEPHONE NUMBER, INCLUDING AREA CODE)

 

INDICATE BY CHECK MARKWHETHER THE REGISTRANT (1) HAS FILED ALL REPORTS REQUIRED TO BE FILED BYSECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 DURING THE PRECEDING12 MONTHS (OR FOR SUCH SHORTER PERIOD THAT THE REGISTRANT WAS REQUIRED TO FILESUCH REPORTS), AND (2) HAS BEEN SUBJECT TO SUCH FILING REQUIREMENTS FOR THEPAST 90 DAYS:  YES  ý   NO  o

 

INDICATE BY CHECK MARKWHETHER THE REGISTRANT IS A LARGE ACCELERATED FILER, AN ACCELERATED FILER, OR ANON-ACCELERATED FILER:

 

LARGE ACCELERATED FILER o   ACCELERATEDFILER  ý   NON-ACCELERATEDFILER  o

 

INDICATE BY CHECK MARKWHETHER THE REGISTRANT IS A SHELL COMPANY (AS DEFINED IN RULE 12B-2 OF THEEXCHANGE ACT):  YES  o   NO  ý

 

AT MAY 4, 2006,58,408,400 ORDINARY SHARES, $0.01 PAR VALUE PER SHARE, WERE ISSUED ANDOUTSTANDING.

 

 

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APEX SILVER MINESLIMITEDFORM 10-QQUARTER ENDED MARCH 31, 2006

 

INDEX

 
| PART I – FINANCIAL INFORMATION |   |                                                                                        |
|-------------------------------------|--------|---------------------------------------------------------------------------------------------|
|                                |   |                                                                                        |   |   |
| ITEM 1.                             |   | FINANCIAL STATEMENTS                                                                        |   |   |
|                                |   |                                                                                        |   |   |
| ITEM 2.                             |   | MANAGEMENT’S DISCUSSION AND  ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS |   |   |
|                                |   |                                                                                        |   |   |
| ITEM 3.                             |   | QUANTITATIVE AND QUALITATIVE  DISCLOSURES ABOUT MARKET RISK AND HEDGING ACTIVITIES          |   |   |
|                                |   |                                                                                        |   |   |
| ITEM 4.                             |   | CONTROLS AND PROCEDURES                                                                     |   |   |
|                                |   |                                                                                        |   |   |
| PART II – OTHER INFORMATION    |   |                                                                                        |
|                                |   |                                                                                        |   |   |
| ITEM 1.                             |   | LEGAL PROCEEDINGS                                                                           |   |   |
|                                |   |                                                                                        |   |   |
| ITEM 1A.                            |   | RISK FACTORS                                                                                |   |   |
|                                |   |                                                                                        |   |   |
| ITEM 2.                             |   | UNREGISTERED SALES OF EQUITY  SECURITIES AND USE OF PROCEEDS                                |   |   |
|                                |   |                                                                                        |   |   |
| ITEM 3.                             |   | DEFAULTS UPON SENIOR  SECURITIES                                                            |   |   |
|                                |   |                                                                                        |   |   |
| ITEM 4.                             |   | SUBMISSION OF MATTERS TO A  VOTE OF SECURITY HOLDERS                                        |   |   |
|                                |   |                                                                                        |   |   |
| ITEM 5.                             |   | OTHER INFORMATION                                                                           |   |   |
|                                |   |                                                                                        |   |   |
| ITEM 6.                             |   | EXHIBITS                                                                                    |   |   |
|                                |   |                                                                                        |   |   |
| SIGNATURES                          |   |                                                                                        |   |   |

 

2

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**PART I. FINANCIAL INFORMATION**

 

**Item 1.****    FinancialStatements**

 

# **APEXSILVER MINES LIMITEDAn Exploration and Development Stage CompanyCONSOLIDATED BALANCE SHEETS(Expressed in United States dollars)(Unaudited)**

 

| ** **                                                                                                                                    | ** ** | **March 31,**                                        | ** ** | **December 31,** | ** ** |
|-----------------------------------------------------------------------------------------------------------------------------------------------|------------|-----------------------------------------------------------|------------|-----------------------|------------|
| ** **                                                                                                                                    | ** ** | **2006**                                                  | ** ** | **2005**              | ** ** |
| ** **                                                                                                                                    | ** ** | **(in thousands, except share data)** | ** ** |
| **Assets**                                                                                                                                    |       |                                                      |       |                  |       |
| Current assets                                                                                                                                |       |                                                      |       |                  |       |
| Cash and cash  equivalents                                                                                                                    |       | $                                                         | 9,318      |                  | $          | 4,808 |   |
| Restricted cash                                                                                                                               |       | 46,624                                                    |       | 135,182               |       |
| Short term  investments                                                                                                                       |       | 1,076                                                     |       | 132,000               |       |
| Restricted  investments                                                                                                                       |       | 171,087                                                   |       | 67,491                |       |
| Prepaid expenses  and other assets                                                                                                            |       | 10,185                                                    |       | 5,824                 |       |
| Total current  assets                                                                                                                         |       | 238,290                                                   |       | 345,305               |       |
|                                                                                                                                          |       |                                                      |       |                  |       |
| Property, plant  and equipment, net                                                                                                           |       | 445,606                                                   |       | 379,138               |       |
| Ore inventories                                                                                                                               |       | 3,620                                                     |       | —                |       |
| Deferred  financing costs                                                                                                                     |       | 20,603                                                    |       | 21,604                |       |
| Value added tax  recoverable                                                                                                                  |       | 26,063                                                    |       | 20,052                |       |
| Restricted  investments                                                                                                                       |       | 76,158                                                    |       | 12,392                |       |
| Other                                                                                                                                         |       | 2,068                                                     |       | 2,020                 |       |
| Total assets                                                                                                                                  |       | $                                                         | 812,408    |                  | $          | 780,511 |   |
|                                                                                                                                          |       |                                                      |       |                  |       |
| **Liabilities and Shareholders’ Equity**                                                                                                 |       |                                                      |       |                  |       |
|                                                                                                                                          |       |                                                      |       |                  |       |
| Current  liabilities                                                                                                                          |       |                                                      |       |                  |       |
| Accounts payable  and other accrued liabilities                                                                                               |       | $                                                         | 64,841     |                  | $          | 74,487 |   |
| Accrued interest  payable                                                                                                                     |       | 515                                                       |       | 3,096                 |       |
| Derivatives                                                                                                                                   |       | 20,607                                                    |       | 5,652                 |       |
| Current portion  of long term debt                                                                                                            |       | 2,413                                                     |       | 2,270                 |       |
| Total current  liabilities                                                                                                                    |       | 88,376                                                    |       | 85,505                |       |
| Long term debt                                                                                                                                |       | 340,579                                                   |       | 320,021               |       |
| Derivatives                                                                                                                                   |       | 91,476                                                    |       | 50,621                |       |
| Asset retirement  obligation                                                                                                                  |       | 3,933                                                     |       | 2,003                 |       |
| Total  liabilities                                                                                                                            |       | 524,364                                                   |       | 458,150               |       |
| Minority  interest in subsidiaries                                                                                                            |       | 41                                                        |       | 34                    |       |
| Commitments and  contingencies (Note 11)                                                                                                      |       |                                                      |       |                  |       |
|                                                                                                                                          |       |                                                      |       |                  |       |
| Shareholders’  equity                                                                                                                    |       |                                                      |       |                  |       |
| Ordinary Shares,  $.01 par value, 175,000,000 shares authorized; 52,031,408 and 50,444,890  shares issued and outstanding at respective dates |       | 520                                                       |       | 504                   |       |
| Accumulated  other comprehensive income (loss)                                                                                                |       | 642                                                       |       | (243                  | )          |
| Additional paid  in capital                                                                                                                   |       | 512,110                                                   |       | 486,762               |       |
| Accumulated  deficit during development stage                                                                                                 |       | (225,269                                                  | )          | (164,696              | )          |
| Total  shareholders’ equity                                                                                                              |       | 288,003                                                   |       | 322,327               |       |
| Total  liabilities and shareholders’ equity                                                                                              |       | $                                                         | 812,408    |                  | $          | 780,511 |   |

 

The accompanying notes form an integral part of these consolidatedfinancial statements.

 

3

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**APEXSILVER MINES LIMITEDAn Exploration and Development Stage CompanyCONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS(Expressed in United States dollars)****(Unaudited)**

** **
| ** **                                                       |   | **Three Months Ended**                          |       | **For the Period from  December 22, 1994  (inception)** |   |
|------------------------------------------------------------------|--------|-----------------------------------------------------------|------------|----------------------------------------------------------------------------------|--------|
| ** **                                                       |   | **March 31,**                                        |       | **through**                                                                      |   |
| ** **                                                       |   | **2006**                                                  | ** ** | **2005**                                                                         |   | **March 31, 2006** |   |
| ** **                                                       |   | **(in thousands, except share data)** |       |
| **Operating  income and expenses:**                              |   |                                                      |       |                                                                             |   |   |   |
| Exploration                                                      |   | $                                                         | (1,450     | )                                                                                | $      | (1,326 | ) | $ | (74,881 | ) |
| Administrative                                                   |   | (5,313                                                    | )          | (3,929                                                                           | )      | (75,171 | ) |
| Losses on  commodity derivatives                                 |   | (58,979                                                   | )          | (374                                                                             | )      | (114,429 | ) |
| Gains (losses)  on foreign currency derivatives and transactions |   | 113                                                       |       | (618                                                                             | )      | 841 |   |
| Other operating  expense (1)                                     |   | (48                                                       | )          | —                                                                           |   | (62 | ) |
| Amortization and  depreciation                                   |   | (95                                                       | )          | (16                                                                              | )      | (1,491 | ) |
| Total operating  expenses                                        |   | (65,772                                                   | )          | (6,263                                                                           | )      | (265,193 | ) |
|                                                             |   |                                                      |       |                                                                             |   |   |   |
| **Other  income and expenses:**                                  |   |                                                      |       |                                                                             |   |   |   |
| Interest and  other income                                       |   | 2,904                                                     |       | 3,400                                                                            |   | 37,576 |   |
| Gain on extinguishment  of debt                                  |   | 2,875                                                     |       | —                                                                           |   | 9,640 |   |
| Interest expense  and other borrowing costs (2)                  |   | (519                                                      | )          | (1,990                                                                           | )      | (11,441 | ) |
| Total other  income and expense                                  |   | 5,260                                                     |       | 1,410                                                                            |   | 35,775 |   |
| Loss before  minority interest and income taxes                  |   | (60,512                                                   | )          | (4,853                                                                           | )      | (229,418 | ) |
| Income taxes                                                     |   | (54                                                       | )          | —                                                                           |   | (433 | ) |
| Minority  interest in (income) loss of consolidated subsidiary   |   | (7                                                        | )          | —                                                                           |   | 4,568 |   |
| Net loss                                                         |   | $                                                         | (60,573    | )                                                                                | $      | (4,853 | ) | $ | (225,283 | ) |
| Other  comprehensive income:                                     |   |                                                      |       |                                                                             |   |   |   |
| Unrealized gain  (loss) on securities                            |   | $                                                         | 390        |                                                                             | (135   | ) | 147 |   |
| Reclassification  for loss included in net income                |   | 495                                                       |       | —                                                                           |   | 495 |   |
| Other  comprehensive gain (loss)                                 |   | 885                                                       |       | (135                                                                             | )      | 642 |   |
| Comprehensive  loss                                              |   | $                                                         | (59,688    | )                                                                                | $      | (4,988 | ) | $ | (224,641 | ) |
|                                                             |   |                                                      |       |                                                                             |   |   |   |
| **Net  loss per Ordinary Share – basic and diluted (3)**    |   | $                                                         | (1.18      | )                                                                                | $      | (0.10 | ) |   |   |
| ** **                                                       |   |                                                      |       |                                                                             |   |   |   |
| **Weighted average Ordinary Shares outstanding**                 |   | 51,420,587                                                |       | 47,681,043                                                                       |   |   |   |

 

----

(1)    Other operating expense is all related toaccretion expense associated with our asset retirement obligation at SanCristobal.

 

(2)    Interest expense and other borrowing costs arenet of $4.3 million and $1.1 million capitalized for the three months ended March31, 2006 and 2005 respectively, and $13.6 million capitalized for the inceptionto date period ended March 31, 2006. In addition, interest expense and otherborrowing costs for the three months ended March 31, 2006 includes a $0.5million write off of deferred issuance costs associated with the purchase of aportion of the Company’s convertible debt (see Note 7).

 

(3)    Diluted earnings per share were anti-dilutivefor all periods presented.

 

The accompanyingnotes form an integral part of these consolidated financial statements.

 

4

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**APEXSILVER MINES LIMITEDAn Exploration and Development Stage CompanyCONSOLIDATED STATEMENTS OF CASH FLOWS(Expressed in United States dollars)(Unaudited)**

 
| ** **                                                                                 | ** ** | **Three Months Ended** | ** ** | **For the period from  December 22, 1994  (inception)** | ** ** |
|--------------------------------------------------------------------------------------------|------------|----------------------------------|------------|----------------------------------------------------------------------------------|------------|
| ** **                                                                                 | ** ** | **March 31,**               | ** ** | **Through**                                                                      | ** ** |
| ** **                                                                                 | ** ** | **2006**                         | ** ** | **2005**                                                                         | ** ** | **March 31, 2006** | ** ** |
| ** **                                                                                 | ** ** | **(in thousands)**          | ** ** |
| Cash flows from  operating activities:                                                     |       |                             |       |                                                                             |       |   |   |
| Net cash used in  operating activities                                                     |       | $                                | (12,111    | )                                                                                | $          | (5,046 | ) | $ | (119,089 | ) |
| Cash flows from  investing activities:                                                     |       |                             |       |                                                                             |       |   |   |
| Purchase of  available for sale investments                                                |       | (34,000                          | )          | (147,625                                                                         | )          | (1,227,192 | ) |
| Sale of  available for sale investments                                                    |       | 84,191                           |       | 165,315                                                                          |       | 1,148,143 |   |
| Purchase of  held-to-maturity investments                                                  |       | —                           |       | (17,524                                                                          | )          | (239,207 | ) |
| Sale of  held-to-maturity investments                                                      |       | 1,000                            |       | 15,669                                                                           |       | 188,007 |   |
| Purchase of  restricted investments                                                        |       | (191,612                         | )          | —                                                                           |       | (233,905 | ) |
| Sale of  restricted investments                                                            |       | 104,869                          |       | 1,868                                                                            |       | 119,645 |   |
| Payment of  derivative premiums, net                                                       |       | (3,168                           | )          | —                                                                           |       | (3,168 | ) |
| Advances for  construction of port facility                                                |       | —                           |       | —                                                                           |       | (2,000 | ) |
| Advances to  suppliers and contractors                                                     |       | (3,405                           | )          | (4,090                                                                           | )          | (7,280 | ) |
| Restricted cash  to collateralize credit facility, letters of credit and interest payments |       | 88,568                           |       | 108                                                                              |       | (49,576 | ) |
| Capitalized  property, plant and equipment                                                 |       | (76,186                          | )          | (19,620                                                                          | )          | (359,116 | ) |
| Net cash used in  investing activities                                                     |       | (29,743                          | )          | (5,899                                                                           | )          | (665,649 | ) |
|                                                                                       |       |                             |       |                                                                             |       |   |   |
| Cash flows from  financing activities:                                                     |       |                             |       |                                                                             |       |   |   |
| Proceeds from  issuance of Ordinary Shares                                                 |       | 5,728                            |       | —                                                                           |       | 429,291 |   |
| Proceeds from  issuance of convertible notes                                               |       | —                           |       | —                                                                           |       | 339,987 |   |
| Payment of debt  issuance costs                                                            |       | (209                             | )          | —                                                                           |       | (24,530 | ) |
| Payments of  notes payable and long term debt                                              |       | (569                             | )          | —                                                                           |       | (3,845 | ) |
| Borrowings under  project finance facility                                                 |       | 40,000                           |       | —                                                                           |       | 40,000 |   |
| Proceeds from  exercise of stock options and warrants                                      |       | 1,414                            |       | 91                                                                               |       | 13,153 |   |
| Net cash  provided by financing activities                                                 |       | 46,364                           |       | 91                                                                               |       | 794,056 |   |
| Net increase  (decrease) in cash and cash equivalents                                      |       | 4,510                            |       | (10,854                                                                          | )          | 9,318 |   |
| Cash and cash  equivalents - beginning of period                                           |       | 4,808                            |       | 27,740                                                                           |       | — |   |
| Cash and cash  equivalents - end of period                                                 |       | $                                | 9,318      |                                                                             | $          | 16,886 |   | $ | 9,318 |   |

 

See Note 13 for supplemental cash flow information.

 

The accompanyingnotes form an integral part of these consolidated financial statements.

 

5

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**APEXSILVER MINES LIMITED****An Exploration and Development Stage Company**

 

**NOTES TOTHE CONSOLIDATED FINANCIAL STATEMENTS****(Expressed in United States dollars)**

 

**1.****     Basisof Preparation of Financial Statements**

 

These unaudited interimconsolidated financial statements of Apex Silver Mines Limited (the “Company”)and its subsidiaries have been prepared in accordance with the rules andregulations of the Securities and Exchange Commission (“SEC”). Such rules andregulations allow the omission of certain information and footnote disclosuresnormally included in financial statements prepared in accordance with generallyaccepted accounting principles in the United States of America, so long as suchomissions do not render the financial statements misleading. Certain priorperiod amounts have been reclassified to conform to the current periodpresentation.

 

In the opinion ofmanagement, these financial statements reflect all adjustments that arenecessary for a fair statement of the results for the periods presented. Alladjustments were of a normal recurring nature. These interim financialstatements should be read in conjunction with the annual financial statementsof the Company included in its 2005 Annual Report on Form 10-K.

 

**2.****     SignificantAccounting Policies**

 

Effective January1, 2006 the Company adopted Financial Accounting Standards No. 123R, “Share-BasedPayment” (“FAS No. 123R”), using the modified prospective approach, whichrevised Statement of Financial Accounting Standards No. 123 “Accounting forStock-Based Compensation” (“FAS No. 123”), and superseded Accounting PrinciplesBoard (“APB”) Opinion 25, “Accounting for Stock Issued to Employees” and itsrelated implementation guidance. The Company is currently evaluating whether itwill adopt the short-cut method for calculating the pool of windfall taxbenefits as allowed by Financial Accounting Standards Board (“FASB”) Statementof Position FAS No. 123R-3. The Company had previously adopted FAS No. 123effective January 1, 2004. FAS No. 123R requires measurement and recording inthe financial statements of the costs of employee services received in exchangefor an award of equity instruments based on the grant-date fair value of theaward, recognized over the period during which an employee is required toprovide services in exchange for such award. Additionally, FAS No. 123Rrequires companies that did not previously include the effects of estimatedforfeitures in the FAS No. 123 expenses they reported, to record a cumulativeadjustment to the income statements presented in the period of adoption of FAS No.123R in order to reflect the effect of the estimated forfeitures. Theforfeiture rate used by the Company prior and subsequent to the adoption of FASNo. 123R has not changed and, therefore, the Company did not record acumulative effect adjustment related to prior period estimated forfeitures. Theadoption of FAS No. 123R did not have a material impact on the Company’sfinancial position or results of operations and is not expected to have amaterial impact in the future (see Note 10).

 

During 2004, acommittee of the Emerging Issues Task Force (“EITF”) began discussing theaccounting treatment for stripping costs incurred during the production phaseof a mine. During March 2005, the EITF reached a consensus (EITF Issue No.04-6) that stripping costs incurred during the production phase of a mine arevariable production costs that should be included in the costs of inventoryproduced during the period that the stripping costs are incurred. The FASBratified the EITF consensus. The EITF consensus is effective for the firstreporting period in fiscal years beginning after December 15, 2005. In January2006, the EITF issued additional guidance defining the commencement ofproduction as the period when saleable minerals are first extracted in greaterthan *de minimis* amounts. In February 2006,the Company began mining significant amounts of oxide ore reserves at its SanCristobal project, which have been placed in stockpiles for future processing. Thequantity and value of the minerals mined were sufficient to declare the startof ore production according to the EITF consensus. The Company has included thecosts associated with the oxide ore production as long term inventory on itsfinancial statements. The Company expects the mining of significant amounts ofoxide ore to continue throughout the year, with the commencement of sulfide oremining in the second half of the year.

 

6

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The Company records costsrelated to productive activities as inventory held for sale in the ordinarycourse of business or work in process for such sale. Work-in-processinventories include ore produced and stockpiled for which further processing isnecessary before a product is ready for sale. The Company uses the average costmethod to assign costs to the units of ore stockpiled during the period. Inventoriesare carried at the lower of cost or the current net realizable value. If costsheld in inventory exceed their net realizable value, the excess cost isrecognized as a loss in the current period. Net realizable value reflects thegross realizable value (“estimated selling price”) reduced by estimated costsof completion and disposal as of the balance sheet date. Gross realizable valuereflects the anticipated average realization that the inventory will generatewhen it is sold. Any inventory write-downs will not be reinstated in subsequentperiods should the net realizable value increase.

 

*New Accounting Standards*

 

At a meeting heldin March 2006 the EITF reached a tentative consensus (EITF Issue No. 05-1) thatthe issuance of equity securities to settle an instrument that becomesconvertible upon the issuer’s exercise of a call option should be accounted foras a conversion (as opposed to an extinguishment) if, at issuance, the debtinstrument contains a substantive conversion feature other than the issuer’scall option. The EITF concluded that if an instrument is deemed convertible atissuance, then a subsequent conversion of the instrument is in accordance witha “conversion privilege that existed at issuance” and is, therefore, outside thescope of APB Opinion No. 26, “Early Extinguishment of Debt.”  Therefore, the issuance of shares to settlethe debt pursuant to the original terms of the instrument should be affordedconversion treatment. If the instrument does not contain a substantive conversionfeature at issuance, the issuance of equity securities to settle the instrumentshould be recognized as a debt extinguishment. EITF Issue No. 05-1 will becomeeffective following its anticipated ratification scheduled for June 2006. TheCompany has previously accounted for two transactions involving the buy-back ofits convertible debt as an extinguishment under APB Opinion No. 26. Ratificationof EITF Issue No. 05-1 would require similar transactions to be accounted for prospectivelyas a conversion.

 

FinancialAccounting Standards No. 154, “Accounting Changes and Error Corrections – areplacement of APB Opinion No. 20 and FASB Statement No. 3” (“FAS No. 154”) iseffective for years beginning after December 15, 2005. FAS No. 154 changes therequirements for the accounting and reporting of a change in accountingprinciple. The statement applies to voluntary changes as well as changesrequired by accounting pronouncements which do not otherwise provide specifictransition provisions, requiring retrospective application to prior period’sfinancial statements where not impractical. FAS No. 154 did not have a materialimpact on the Company’s financial position or results of operations for theperiod and is not expected to have a material impact in the future.

 

**3.****     Investments**

 

The Company considers all highly liquid investmentswith a maturity of three months or less when purchased to be cash equivalents. Short-terminvestments include investments with maturities greater than three months, butnot exceeding twelve months. Long-term investments include investments withmaturities greater than twelve months.

 

The Company determines the appropriate classificationof its investments in debt and equity securities at the time of purchase andre-evaluates classifications at each balance sheet date. Debt securities areclassified as held to maturity when the Company has the intent and ability tohold the securities to maturity. Held to maturity debt securities are stated atamortized cost and include government agency and corporate obligations. Availablefor sale investments are marked to market at each reporting period with changesin value recorded as a component of other comprehensive income. If declines invalue are deemed other than temporary, a charge is made to net loss for theperiod.

 

The Company generally records its investments as shortterm or long term based on the underlying maturity date of the investmentsheld.  However, in certain instances theCompany has been required to place investment funds in escrow where therestrictions on the use of such funds expire beyond the maturity dates of theunderlying investments.  In thisinstance, where the expiration date of the restriction is greater than oneyear, the Company classifies the investment as long term.  At March 31, 2006 the Company had placed$70.4 million of investments in escrow to fund possible overruns of theCompany’s San Cristobal Project as a requirement of the project financefacility.  The underlying investments inthis escrow account have maturity dates of less than twelve months but theescrow account will not be released until after completion of the San Cristobalproject, therefore, the Company has classified these investments as long term.  (See Note 11 for additional discussion ofrestricted investments)

7

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The Companyinvests only in government and corporate securities rated “investment grade” orbetter. The following tables, based on quoted market prices, summarizes theCompany’s investments at March 31, 2006 and December 31, 2005:

 
| **March 31, 2006**                  | ** **                      | **Cost**           | ** **              | **Market** | ** ** | **Balance** | ** **  |
|-------------------------------------|---------------------------------|--------------------|-------------------------|------------|------------|-------------|-------------|
| ** **                          | ** **                      | **(in Thousands)** | ** **              |
| Short-term                          |                            |               |                    |       |       |        |        |
| Available for  sale                 |                            |               |                    |       |       |        |        |
| Common stock                        |                            | $                  | 434                     |       | $          | 1,076       |        | $ | 1,076 |   |
| Total short term                    |                            | $                  | 434                     |       | $          | 1,076       |        | $ | 1,076 |   |
|                                |                            |               |                    |       |       |        |        |
| Restricted Investments:             |                            |               |                    |       |       |        |        |
| Short-term                          |                            |               |                    |       |       |        |        |
| Available for  sale                 |                            |               |                    |       |       |        |        |
| Auction rate  securities            |                            | $                  | 142,466                 |       | $          | 142,466     |        | $ | 142,466 |   |
| Total available  for sale           |                            | 142,466            |                    | 142,466    |       | 142,466     |        |
| Held to maturity                    |                            |               |                    |       |       |        |        |
| Corporate notes                     |                            | 3,285              |                    | 3,275      |       | 3,285       |        |
| Government bonds                    |                            | 25,336             |                    | 25,183     |       | 25,336      |        |
| Total held to  maturity             |                            | 28,621             |                    | 28,461     |       | 28,621      |        |
|     Total short term |                            | $                  | 171,087                 |       | $          | 170,927     |        | $ | 171,087 |   |
|                                |                            |               |                    |       |       |        |        |
| Long-term                           |                            |               |                    |       |       |        |        |
| Available for  sale                 |                            |               |                    |       |       |        |        |
| Auction rate securities             |                            | $                  | 18,334                  |       | $          | 18,334      |        | $ | 18,334 |   |
| Total available  for sale           |                            | 18,334             |                    | 18,334     |       | 18,334      |        |
| Held to maturity                    |                            |               |                    |       |       |        |        |
| Corporate notes                     |                            | 2,450              |                    | 2,444      |       | 2,450       |        |
| Government bonds                    |                            | 55,374             |                    | 54,911     |       | 55,374      |        |
| Total held to  maturity             |                            | 57,824             |                    | 57,355     |       | 57,824      |        |
|     Total long term  |                            | $                  | 76,158                  |       | $          | 75,689      |        | $ | 76,158 |   |
|                                |                            |               |                    |       |       |        |        |
|                                | **December 31, 2005** | ** **         | **Cost**                | ** ** | **Market** | ** **  | **Balance** | ** ** |
|                                | ** **                      | ** **         | **(in Thousands)** | ** ** |
|                                | Short-term                      |               |                    |       |       |        |        |   |
|                                | Available for  sale             |               |                    |       |       |        |        |   |
|                                | Common stock                    |               | $                       | 434        |       | $           | 686         |   | $ | 686 |   |
|                                | Bond funds                      |               | 3,381                   |       | 2,885      |        | 2,885       |   |
|                                | Auction rate  securities        |               | 127,426                 |       | 127,426    |        | 127,426     |   |
|                                | Total available  for sale       |               | 131,241                 |       | 130,997    |        | 130,997     |   |
|                                | Held to maturity                |               |                    |       |       |        |        |   |
|                                | Corporate notes                 |               | 1,003                   |       | 998        |        | 1,003       |   |
|                                | Total held to  maturity         |               | 1,003                   |       | 998        |        | 1,003       |   |
|                                | Total short term                |               | $                       | 132,244    |       | $           | 131,995     |   | $ | 132,000 |   |
|                                |                            |               |                    |       |       |        |        |   |
|                                | Restricted  Investments:        |               |                    |       |       |        |        |   |
|                                | Short-term                      |               |                    |       |       |        |        |   |
|                                | Available for  sale             |               |                    |       |       |        |        |   |
|                                | Auction rate  securities        |               | $                       | 14,950     |       | $           | 14,950      |   | $ | 14,950 |   |
|                                | Total available  for sale       |               | 14,950                  |       | 14,950     |        | 14,950      |   |
|                                | Held to maturity                |               |                    |       |       |        |        |   |
|                                | Corporate notes                 |               | 2,003                   |       | 2,004      |        | 2,003       |   |
|                                | Government bonds                |               | 50,538                  |       | 50,191     |        | 50,538      |   |
|                                | Total held to  maturity         |               | 52,541                  |       | 52,195     |        | 52,541      |   |
|                                | Total short term                |               | $                       | 67,491     |       | $           | 67,145      |   | $ | 67,491 |   |
|                                | Long-term                       |               |                    |       |       |        |        |   |
|                                | Held to maturity                |               |                    |       |       |        |        |   |
|                                | Government bonds                |               | $                       | 12,392     |       | $           | 12,173      |   | $ | 12,392 |   |
|                                     |                                 |                    |                         |            |            |             |             |  |  |  |  |  |  |

 

8

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The Company liquidatedapproximately $12.0 million of investments, previously recorded as held tomaturity, prior to their maturity dates as a requirement of the project financefacility and recognized a $0.1 million loss on the liquidation.

 

**4.****     Prepaidexpenses and other assets**

 

Prepaid expensesand other assets consist of the following:

 
| ** **                                | ** ** | **March 31,  2006** | ** **  | **December 31,  2005** | ** ** |
|-------------------------------------------|------------|--------------------------|-------------|-----------------------------|------------|
| ** **                                | ** ** | **(in thousands)**  | ** **  |
| Prepaid insurance                    |       | $                        |  1,451 |                        | $          |  824 |   |
| Prepaid bank  fees                        |       | 209                      |        | —                      |       |
| Accrued interest  receivable              |       | 871                      |        | 758                         |       |
| Prepaid  consulting & contractor fees |       | 7,258                    |        | 3,874                       |       |
| Receivables,  travel advances and other   |       | 146                      |        | 118                         |       |
| Withholding  taxes receivable             |       | 250                      |        | 250                         |       |
|                                      |       | $                        | 10,185      |                        | $          | 5,824 |   |

 

The prepaidconsulting and contractor fees consist primarily of advance payments made tocontractors for work being performed for the San Cristobal Project.

 

**5.****     ValueAdded Tax Recoverable**

 

The Company has recorded value added tax (“VAT”) paidin Bolivia as a recoverable asset. Bolivian law states that VAT paid prior toproduction is recoverable as a credit against Bolivian taxes arising fromproduction, including income tax. The VAT paid in Bolivia is expected to berecovered through production from the proven and probable reserves at the SanCristobal Project that the Company is developing. At March 31, 2006 andDecember 31, 2005 the recoverable VAT recorded for Bolivia is $26.1 million and$20.1 million respectively.

 

In addition, the Company has incurred VAT related tovarious exploration activities outside of the San Cristobal project in Boliviaand other countries. Because of the uncertainty of the recoverability of thesetaxes they are charged to expense as incurred.

 

**6.****     Property,Plant and Equipment**

 

The components of property, plant and equipment wereas follows:

 
| ** **                      | ** ** | **March 31,  2006** | ** ** | **December 31,  2005** | ** ** |
|---------------------------------|------------|--------------------------|------------|-----------------------------|------------|
| ** **                      | ** ** | **(in thousands)**  | ** ** |
| Mineral  properties             |       | $                        | 117,041    |                        | $          | 117,103 |   |
| Construction in  progress       |       | 297,500                  |       | 232,288                     |       |
| Buildings                       |       | 8,423                    |       | 8,423                       |       |
| Mining equipment  and machinery |       | 11,505                   |       | 10,127                      |       |
| Equipment under  capital lease  |       | 16,199                   |       | 14,928                      |       |
| Other furniture  and equipment  |       | 1,873                    |       | 1,966                       |       |
|                            |       | 452,541                  |       | 384,835                     |       |
| Less:  Accumulated depreciation |       | (6,935                   | )          | (5,697                      | )          |
|                            |       | $                        | 445,606    |                        | $          | 379,138 |   |

 

For the threemonth periods ended March 31, 2006 and 2005 the Company recorded depreciationexpense of $95,000 and $16,000, respectively. Also, for the three month periodsended March 31, 2006 and 2005 the Company capitalized depreciation associatedwith the San Cristobal Project in the amounts of $1.1 million and $0.1 millionrespectively.

 

9

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The March 31, 2006and December 31, 2005 construction in progress balances contain $13.6 and $9.4million of capitalized interest respectively.

 

**7.****     Debt**

 

The Company’s debtconsists of the following:

 
| ** **                                             | ** ** | **March 31, 2006** | ** ** | **December 31, 2005** | ** ** |
|--------------------------------------------------------|------------|------------------------------|------------|---------------------------------|------------|
| ** **                                             | ** ** | **Current**                  | ** ** | **Long term**              | ** ** | **Current** | ** ** | **Long term** | ** ** |
| ** **                                             | ** ** | **(in thousands)**      | ** ** |
| 2.875%  Convertible Senior Subordinated Notes due 2024 |       | $                            | —     |                            | $          | 180,000 |   | $ | — |   | $ | 180,000 |   |
| 4.0% Convertible  Senior Subordinated Notes due 2024   |       | —                       |       | 109,987                         |       | — |   | 129,987 |   |
| Project finance  facility                              |       | —                       |       | 40,000                          |       |   |   |   |   |
| Capital lease  obligations                             |       | 2,413                        |       | 10,592                          |       | 2,270 |   | 10,034 |   |
|                                                   |       | $                            | 2,413      |                            | $          | 340,579 |   | $ | 2,270 |   | $ | 320,021 |   |

 

In December 2005the Company closed on a $225 million project finance facility, arranged by BNPParibas and Barclays Capital, and funded by a group of international financialinstitutions including banks, export credit agencies and the Andean DevelopmentCorporation, a multilateral financial agency that promotes sustainabledevelopment in South America. Borrowings from the facility are being used tocomplete the development of the Company’s San Cristobal Project. During thefirst quarter 2006 the Company borrowed $40.0 million under the facility. TheCompany is required to pay a commitment fee on the undrawn amount of thefacility. Interest on the outstanding amounts drawn under the facility is basedon LIBOR plus a credit spread for the outstanding amounts drawn against thefacility. Covenants related to the facility require the Company to maintaincertain security interests, financial ratios, insurance coverage, minimum salescontracts and metal price protection contracts as well as other requirements.

 

During the firstquarter 2006 the Company placed in service $1.3 million of additional miningequipment to be used in stripping and future mine production, and recorded thetransaction as a capital lease, resulting in total capital lease obligations of$13.0 million at March 31, 2006. During the first quarter 2006 the Company madepayments of $0.6 million related to capital lease obligations and will be requiredto make additional payments of $1.8 million for the remainder of 2006, $2.4million during each of 2007 and 2008, $1.8 million during 2009, $1.2 millionduring 2010 and $3.4 million thereafter.

 

During the firstquarter 2006 the Company issued approximately 1.1 million Ordinary Sharesvalued at $17.1 million and $0.3 million of cash for unpaid interest tocomplete the purchase of $20.0 million principal amount of the Company’s 4.0%Convertible Senior Subordinated Notes due 2024 in a privately negotiatedexchange transaction. The transaction resulted in the recognition of a $2.9million gain on extinguishment of debt. The Company canceled the notespurchased in the transaction.

 

Pursuant to theagreement related to the 4% Notes and certain provisions of the project financefacility, the Company is required to maintain restricted investments to coverthe payment of interest on all of the Notes through 2007. The amount investedwill at maturity equal the interest payments due. As of March 31, 2006, $15.9million of restricted investments were designated for this purpose including $9.6million in investments classified as current and $6.3 million in investmentsclassified as long-term.

 

**8.****     SalesContracts and Derivative Instruments**

 

Certain covenantsrelated to the project finance facility required the Company to provide priceprotection for a portion of its planned production of metals from San Cristobal.During the third quarter 2005, the Company entered into contracts utilizingforward sales, puts and calls to comply with the project finance facilitycovenants. In order to maintain leverage to silver market prices, the Companyentered into

 

10

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proportionally more zinc and lead contracts than silver. Thesederivative positions represent approximately 3.5%, 12.6% and 14.7% of plannedlife-of-mine payable production of silver, zinc and lead, respectively.Non-cash mark-to-market gains and losses from these outstanding metalderivative positions may fluctuate substantially from period to period based onspot and forward prices and option volatilities.

 

In addition, theCompany continues to make limited investments in shorter duration put and calloptions and other metals derivatives not required by the project financing. Thesederivative positions typically have settlement dates less than one year andmanagement has the option to settle these positions in cash or roll themforward to a future date.

 

The recentincreases in the spot and forward prices for silver, zinc and lead haveresulted in a $59.0 million mark-to-market loss on the company’s derivativepositions for the quarter ended March 31, 2006. The loss did not have amaterial impact on the Company’s cash flows or cash position for the period. Further,with respect to the required project financing derivative positions, the actualfinancial impact will not be known until the positions are closed on theirfuture settlement dates. The Company does not intend to use cash to settle theopen derivatives position relating to the project financing prior to thesettlement dates beginning in 2007. At the time of final settlement, the gainor loss recorded will exclude previously recognized non-cash mark-to-marketgains or losses. In addition, should the increased metals price projectionsused to calculate the non-cash mark-to-market loss, with respect to the projectfinancing derivative positions, continue into the production phase of the SanCristobal project, the increased revenue from metals sales for which priceprotection was not required would generate a significant benefit to futureearnings and cash flows.

 

The followingtable sets forth the Company’s open contracts at March 31, 2006. The contractswill be settled based on monthly average prices for each metal in the periodindicated.

 
| ** **                         | ** ** | **Current Maturity Date**             | ** ** |
|------------------------------------|------------|-------------------------------------------------|------------|
| ** **                         | ** ** | **Less Than**                              | ** ** | **1 to 3** | ** ** | **3 to 5** | ** ** | ** ** | ** ** | ** ** | ** ** |
| ** **                         | ** ** | **1 Year**                                 | ** ** | **Years** | ** ** | **Years** | ** ** | **Thereafter** | ** ** | **Total** | ** ** |
| ** **                         | ** ** | **(in thousands except prices)** | ** ** |
| **Forward  Contracts**             |       |                                            |       |   |   |   |   |   |   |   |   |
| Silver (ounces)                    |       | 40.0                                            |       | 190.0 |   | 185.0 |   | 240.0 |   | 655.0 |   |
| Average price                      |       | $                                               | 14.13      |   | $ | 7.30 |   | $ | 7.21 |   | $ | 7.13 |   | $ | 7.63 |   |
|                               |       |                                            |       |   |   |   |   |   |   |   |   |
| Zinc (pounds)                      |       | 12,181                                          |       | 300,846 |   | 413,227 |   | 61,729 |   | 787,983 |   |
| Average price                      |       | $                                               | 1.10       |   | $ | 0.48 |   | $ | 0.48 |   | $ | 0.48 |   | $ | 0.49 |   |
|                               |       |                                            |       |   |   |   |   |   |   |   |   |
| Lead (pounds)                      |       | —                                          |       | 195,106 |   | 127,867 |   | — |   | 322,973 |   |
| Average price                      |       | $                                               | —     |   | $ | 0.30 |   | $ | 0.29 |   | $ | — |   | $ | 0.30 |   |
|                               |       |                                            |       |   |   |   |   |   |   |   |   |
| **Put  Option Contracts Owned**    |       |                                            |       |   |   |   |   |   |   |   |   |
| Silver (ounces)                    |       | —                                          |       | 925 |   | 2,575 |   | 5,600 |   | 9,100 |   |
| Average price                      |       | $                                               | —     |   | $ | 5.40 |   | $ | 5.69 |   | $ | 5.88 |   | $ | 5.81 |   |
|                               |       |                                            |       |   |   |   |   |   |   |   |   |
| Zinc (pounds)                      |       | 27,558                                          |       | — |   | — |   | — |   | 27,558 |   |
| Average price                      |       | $                                               | 0.61       |   | $ | — |   | $ | — |   | $ | — |   | $ | 0.61 |   |
|                               |       |                                            |       |   |   |   |   |   |   |   |   |
| Lead (pounds)                      |       | —                                          |       | 2,205 |   | — |   | — |   | 2,205 |   |
| Average price                      |       | $                                               | —     |   | $ | 0.50 |   | $ | — |   | $ | — |   | $ | 0.50 |   |
|                               |       |                                            |       |   |   |   |   |   |   |   |   |
| **Call  Option Contracts Written** |       |                                            |       |   |   |   |   |   |   |   |   |
| Silver (ounces)                    |       | 2,425                                           |       | 3,450 |   | 5,675 |   | 675 |   | 12,225 |   |
| Average price                      |       | $                                               | 14.91      |   | $ | 8.44 |   | $ | 8.14 |   | $ | 9.24 |   | $ | 9.63 |   |
|                               |       |                                            |       |   |   |   |   |   |   |   |   |
| Zinc (pounds)                      |       | 34,723                                          |       | 8,818 |   | 4,960 |   | — |   | 48,502 |   |
| Average price                      |       | $                                               | 0.78       |   | $ | 0.57 |   | $ | 0.57 |   | $ | — |   | $ | 0.72 |   |
|                               |       |                                            |       |   |   |   |   |   |   |   |   |
| Lead (pounds)                      |       | 14,606                                          |       | 17,637 |   | 9,921 |   | — |   | 42,163 |   |
| Average price                      |       | $                                               | 0.67       |   | $ | 0.39 |   | $ | 0.39 |   | $ | — |   | $ | 0.48 |   |

 

The Company marks its open derivative positions tofair value at the end of each accounting period with the related change in fairvalue recorded to earnings in accordance with Statement of Financial AccountingStandards No. 133, “Accounting for Derivative Instruments and HedgingActivities” (“FAS

 

11

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No. 133”). For thequarter ended March 31, 2006 the Company recorded a mark to market loss of$59.0 million compared to a mark-to-market loss of $0.4 million recorded forthe quarter ended March 31, 2005.

 

To arrive at fair value for its open derivative positions, the Companyutilizes publicly available current and historical market data, including majorcommodities price indices such as the LME and COMEX, in combination withindependently derived third party projections to derive future forward metalprices. Many of the Company’s open derivative positions expire on dates thatare beyond the periods covered by the LME or COMEX indices, or expire in thefuture periods covered by those indices with respect to which no tradingactivity has occurred. In these instances, where an active market does notexist, the Company uses price projections provided by an independent thirdparty employing statistical analysis as the best indication of fair value. TheCompany obtains advice from outside consultants knowledgeable in the valuationof commodities to establish the major assumptions used in the fair valuecalculation, including discount rates, historical price trends and forwardprice projections.

 

Longer datedforward and option positions are valued using the Schwartz one-factor modelwhich is a recognized mean-reversion commodities pricing model that uses asingle volatility factor. Mean-reversion models assume that prices eventuallyrevert to a longer-term historical price trend. Forward prices derived from themean-reversion model are lower than current spot market prices due to therecent sharp run-up in prices witnessed during the past year. If current spotprices continue into future periods that include the settlement dates of theCompany’s open derivative positions, the Company will report furthermark-to-market losses in subsequent periods. As of March 31, 2006, the fairvalue of the Company’s open commodities derivatives position was a net negative$112.1 million.

 

During the firstthree months of 2005 the Company incurred a mark-to-market loss of $0.6 millionrelated to certain foreign currency derivative positions related to certainequipment being purchased for San Cristobal that was denominated in Euros. AtMarch 31, 2006 the Company did not hold any foreign currency derivativepositions.

 

The followingtable sets forth the realizable fair value of the Company’s open derivativepositions at December 31, 2005 and the change for the quarter ended March 31,2006.

 
| ** **                                                           | ** ** | ** **            | ** ** | **Amount To Be Realized In** | ** ** |
|----------------------------------------------------------------------|------------|-----------------------|------------|--------------------------------------------------|------------|
| ** **                                                           | ** ** | ** **            | ** ** | **Less Than**                               | ** ** | **2 to 3** | ** ** | **4 to 5** | ** ** | ** ** | ** ** | ** ** | ** ** |
| **Valuation Technique**                                         | ** ** | **Period Ended** | ** ** | **1 Year**                                  | ** ** | **Years** | ** ** | **Years** | ** ** | **Thereafter** | ** ** | **Total** | ** ** |
| ** **                                                           | ** ** | ** **            | ** ** | **(in thousands)**                          | ** ** |
| **Based  on quoted prices in active markets:**                       |       | 12/31/2005            |       | $                                                | (5,652     | ) | $ | — |   | $ | — |   | $ | — |   | $ | (5,652 | ) |
|                                                                 |       | 3/31/2006             |       | $                                                | (20,607    | ) | $ | — |   | $ | — |   | $ | — |   | $ | (20,607 | ) |
|                                                                 |       | 2006 Change           |       | $                                                | (14,955    | ) | $ | — |   | $ | — |   | $ | — |   | $ | (14,955 | ) |
| **Based  on Schwartz one-factor model and other valuation methods:** |       | 12/31/2005            |       | $                                                | —     |   | $ | (25,785 | ) | $ | (25,580 | ) | $ | 744 |   | $ | (50,621 | ) |
|                                                                 |       | 3/31/2006             |       | $                                                | —     |   | $ | (54,666 | ) | $ | (35,740 | ) | $ | (1,070 | ) | $ | (91,476 | ) |
|                                                                 |       | 2006 Change           |       | $                                                | —     |   | $ | (28,881 | ) | $ | (10,160 | ) | $ | (1,814 | ) | $ | (40,855 | ) |
|                                                                 |       |                  |       |                                             |       |   |   |   |   |   |   |   |   |
| **Totals:**                                                          |       | 12/31/2005            |       | $                                                | (5,652     | ) | $ | (25,785 | ) | $ | (25,580 | ) | $ | 744 |   | $ | (56,273 | ) |
|                                                                 |       | 3/31/2006             |       | $                                                | (20,607    | ) | $ | (54,666 | ) | $ | (35,740 | ) | $ | (1,070 | ) | $ | (112,083 | ) |
|                                                                 |       | 2006 Change           |       | $                                                | (14,955    | ) | $ | (28,881 | ) | $ | (10,160 | ) | $ | (1,814 | ) | $ | (55,810 | ) |

 

**9.****     AssetRetirement Obligations**

 

The Company has developedan asset retirement plan for its San Cristobal Project which is currently underconstruction and is expected to begin producing in 2007. The plan includes estimatedreclamation, remediation and closure requirements based on governmentrequirements, World Bank financing requirements and the Company’s policies. Beginningin the third quarter 2005 the Company has been conducting activities at its SanCristobal Property including earthworks and plant construction that fall

 

12

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within the scope of the asset retirement plan and as such will requirefuture reclamation and closure expenditures.

 

Per the guidance ofStatement of Financial Accounting Standards No. 143, “Accounting for AssetRetirement Obligations” (“FAS No. 143”), the fair value of the asset retirementobligation (“ARO”) associated with the San Cristobal Project is calculated byfirst estimating the cash flows required to settle an estimated $21.3 millionARO obligation in future periods using an inflation rate of 1.6 percent andthen discounting the future cash flows using the Company’s credit-adjustedrisk-free rate of 9.8 percent.

 

The following tablereconciles the beginning and ending balance for the Company’s asset retirementobligations (in thousands):

 
| Balance at December 31, 2005     |   | $      | 2,003  |   |
|----------------------------------|--------|--------|--------|--------|
|                             |   |   |   |
| Additions                        |   | 1,882  |   |
| Changes in  estimates, and other |   | — |   |
| Liabilities  settled             |   | — |   |
| Accretion  expense               |   | 48     |   |
|                             |   |   |   |
| Balance at March 31, 2006        |   | $      | 3,933  |   |

 

**10.****  Shareholders’Equity**

 

The followingtable sets forth the changes in shareholders’ equity during the first threemonths of 2006:

 
| ** **                                       | ** ** | ** **                            | ** ** | ** **  | ** ** | ** **      | ** ** | ** **        | ** ** | **Accumulated**        | ** **   | ** ** | ** ** |
|--------------------------------------------------|------------|---------------------------------------|------------|-------------|------------|-----------------|------------|-------------------|------------|------------------------|--------------|------------|------------|
| ** **                                       | ** ** | ** **                            | ** ** | ** **  | ** ** | **Additional**  | ** ** | ** **        | ** ** | **Other**              | ** **   | **Total**  | ** ** |
| ** **                                       | ** ** | **Common  Stock**                     | ** ** | **Paid-in** | ** ** | **Accumulated** | ** ** | **Comprehensive** | ** ** | **Shareholders’** | ** **   |
| ** **                                       | ** ** | **Shares**                            | ** ** | **Amount**  | ** ** | **Capital**     | ** ** | **Deficit**       | ** ** | **income**             | ** **   | **Equity** | ** ** |
| ** **                                       | ** ** | **(in  thousands except share data)** | ** ** |
| **Balance, December 31, 2005**                   | ** ** | **50,444,890**                        | ** ** | **$**       | **504.4**  | ** **      | **$**      | **486,762**       | ** ** | **$**                  | **(164,696** | **)**      | **$**      | **(243** | **)** | **$** | **322,327** | ** ** |
| Stock to construct power line ($15.09 per share) |       | 369,033                               |       | 3.7         |       | 5,724           |       | —            |       | —                 |         | 5,728      |       |
| Shares issued to retire debt, ($15.77 per share) |       | 1,086,653                             |       | 10.9        |       | 17,114          |       | —            |       | —                 |         | 17,125     |       |
| Stock to consultants ($15.90 per share)          |       | 2,832                                 |       | —      |       | 45              |       | —            |       | —                 |         | 45         |       |
| Stock compensation accrued.                      |       | —                                |       | —      |       | 1,052           |       | —            |       | —                 |         | 1,052      |       |
| Stock options exercised ($13.09 per share)       |       | 108,000                               |       | 1.1         |       | 1,413           |       | —            |       | —                 |         | 1,414      |       |
| Stock granted as compensation ($19.30 per share) |       | 20,000                                |       | 0.2         |       | —          |       | —            |       | —                 |         | —     |       |
| Unrealized gain on marketable equity securities  |       | —                                |       | —      |       | —          |       | —            |       | 885                    |         | 885        |       |
| Net loss                                         |       | —                                |       | —      |       | —          |       | (60,573           | )          | —                 |         | (60,573    | )          |
| **Balance, March 31, 2006**                      | ** ** | **52,031,408**                        | ** ** | **$**       | **520.3**  | ** **      | **$**      | **512,110**       | ** ** | **$**                  | **(225,269** | **)**      | **$**      | **642** | ** ** | **$** | **288,003** | ** ** |

 

*OrdinaryShare Issuances* – During January 2006, the Company issued369,033 of its Ordinary Shares, valued at $5.7 million, as the last of fouragreed upon advances to SC TESA for the construction of the power line to theSan Cristobal project. The Company had previously issued 1,134,799 of itsOrdinary Shares, valued at $16.6 million, during 2005, as the first threeadvances to SC TESA. Excess proceeds of $0.1 million received by SC TESA fromthe sale of the shares will be added to the advances to be repaid to theCompany with interest through credits against charges for future delivery ofpower.

 

In January and February2006 the Company issued approximately 1.1 million Ordinary Shares valued at$17.1 million and $0.3 million of cash for unpaid interest to complete thepurchase of $20.0 million principal amount of the Company’s 4.0% ConvertibleSenior Subordinated Notes due 2024 in a privately negotiated exchangetransaction. The Company canceled the notes purchased in the transaction.

 

*StockOption Plans* – The Company has established a plan toissue share options and other share awards for officers, employees, consultantsand agents of the Company and its subsidiaries (the “Plan”).

 

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Option awards are generally granted with an exercise price equal to themarket price of the Company’s stock at the date of grant. Options typicallyvest ratably over periods of up to four years with the first tranche vesting onthe date of grant or the first anniversary of the date of grant. Unexercisedoptions expire typically ten years after the date of grant. The options andother awards provide for accelerated vesting if there is a change in control asdefined in the Plan.

 

The Company has alsoestablished a share option plan for its non-employee directors (the “DirectorPlan”). Options granted under the Director Plan vest on the date of the grantand expire ten years after the date of the grant or three years after the datethat a non-employee director ceases to be a director of the Company. Optionsgranted under the Director Plan are transferable only in limited circumstances.

 

The fair value of eachoption award is estimated on the date of grant using the Black-Scholesoption-pricing model that uses the assumptions noted in the following table.Expected volatilities are based on historical volatility of the entity’s stock.The Company uses historical data to estimate option exercise and employeetermination within the Black-Scholes model. The expected term of optionsgranted represents the period of time that options granted are expected to beoutstanding and is based on past experience and future estimates and includesdata from both the Plan and the Directors Plan. The risk-free rate for periodswithin the contractual life of the option is based on the U.S. Treasury yieldcurve in effect at the time of grant.

 

For purposes ofcalculating the fair value of options, volatility for the periods presented isbased on the historical volatility of the Company’s Ordinary Shares. TheCompany currently does not foresee the payment of dividends in the near term.The fair value for these options was estimated at the date of grant using theBlack-Scholes option-pricing model with the following assumptions:

 
| ** **                  | ** ** | **Three Months Ended March 31,** | ** ** |
|-----------------------------|------------|----------------------------------|------------|
| ** **                  | ** ** | **2006**                         | ** ** | **2005** | ** ** |
| Expected volatility         |       | 43.8% - 44.5                     | %          | 42.6 | % |
| Weighted average volatility |       | 44.0                             | %          | 42.6 | % |
| Expected dividend yield     |       | —                           |       | — |   |
| Expected term (in years)    |       | 3.55                             |       | 3.58 |   |
| Risk-free rate              |       | 4.47                             | %          | 3.62 | % |

 

A summary of theCompany’s stock options at March 31, 2006 and changes during the three monthsthen ended is presented in the following table:

 
| **Options**                               | ** ** | **Number of Shares** | ** ** | **Weighted  Average  Exercise  Price Per  Share** | ** ** | **Weighted Average Remaining Contractual Life** | ** ** | **Aggregate Intrinsic Value** | ** ** |
|-------------------------------------------|------------|----------------------|------------|---------------------------------------------------|------------|-------------------------------------------------|------------|-------------------------------|------------|
| Outstanding at beginning of period        |       | 2,859,781            |       | $                                                 | 14.42      |                                            | 6.4 Years  |                          | $          | 4,232,476 |   |
| Granted during period                     |       | 32,644               |       | $                                                 | 19.63      |                                            | 9.9 Years  |                          | $          | — |   |
| Forfeited or expired during period        |       | (30,000              | )          | $                                                 | 16.61      |                                            |       |                          | $          | (13,653 | ) |
| Exercised during period                   |       | (108,000             | )          | $                                                 | 13.09      |                                            |       |                          | $          | 944,404 |   |
| Outstanding at end of period              |       | 2,754,425            |       | $                                                 | 14.51      |                                            | 6.2 Years  |                          | $          | 25,450,887 |   |
| Exercisable at end of period              |       | 1,926,249            |       | $                                                 | 13.25      |                                            | 5.1 Years  |                          | $          | 20,225,615 |   |
| Expected to vest at the end of the Period |       | 828,176              |       | $                                                 | 17.43      |                                            | 8.7 Years  |                          | $          | 5,234,072 |   |

 

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During the three monthsended March 31, 2006 and March 31, 2005, the Company granted equity awards withweighted average grant date fair values of $0.2 million and $0.4 million,respectively; options were exercised with total intrinsic values of $0.9million and $0.1 million, respectively; and the total fair value of sharesvested during those three months was $0.3 million and $0.0 million,respectively.

 

As of March 31, 2006,total unrecognized compensation cost related to the non-vested stock optionsgranted pursuant to the Plan was $3.0 million which the Company expects will berecognized over a weighted average period of 1.0 year.

 

A summary of the statusof the Company’s non-vested restricted stock grants at March 31, 2006 andchanges during the three months then ended is presented in the following table:

 
| **Nonvested Shares**             | ** ** | **Number of  Shares** | ** ** | **Weighted Average Grant Date Fair Value Per Share** | ** ** |
|----------------------------------|------------|-----------------------|------------|------------------------------------------------------|------------|
| Nonvested at beginning of period |       | 173,200               |       | $                                                    | 18.38      |   |
| Granted during period            |       | —                |       | $                                                    | —     |   |
| Vested during period             |       | (1,500                | )          | $                                                    | 23.11      |   |
| Forfeited during period          |       | (3,000                | )          | $                                                    | 16.03      |   |
| Nonvested at end of period       |       | 168,700               |       | $                                                    | 18.38      |   |

 

As of March 31, 2006,total unrecognized compensation cost related to the non-vested restrictedshares granted pursuant to the Plan was $2.3 million. The Company expects thatthe total unrecognized cost will be recognized over a weighted-average periodof 1.2 years.

 

During 2005 the Companygranted stock-based performance bonuses under the Plan, related to certainbudget targets and completion date targets for the San Cristobal Project. Thefollowing table summarizes the stock-based performance bonus plan at March 31,2006 and changes during the first three months of 2006:

 
| **Nonvested Shares**             | ** ** | **Number of  Shares** | ** ** | **Weighted Average Grant Date Fair Value Per Share** | ** ** |
|----------------------------------|------------|-----------------------|------------|------------------------------------------------------|------------|
| Nonvested at beginning of period |       | 32,000                |       | $                                                    | 15.41      |   |
| Granted during period            |       | —                |       | $                                                    | —     |   |
| Vested during period             |       | —                |       | $                                                    | —     |   |
| Forfeited during period          |       | (6,000                | )          | $                                                    | 16.25      |   |
| Nonvested at end of period       |       | 26,000                |       | $                                                    | 15.21      |   |

 

As of March 31, 2006,total unrecognized compensation cost related to the non-vested performancebonuses granted pursuant to the Plan was $0.2 million. The Company expects thatthe total unrecognized cost will be recognized over a weighted-average periodof 1.3 years.

 

Total compensation costsrecognized for all stock-based employee compensation awards, including amountscapitalized, were $0.7 million and $0.6 million for the three months endedMarch 31, 2006 and 2005, respectively.

 

**11.****  Commitmentsand Contingencies**

 

*Lettersof Credit* – At March 31, 2006, the Company had outstanding irrevocable standby letters of creditrelated to the San Cristobal Project in the aggregate amount of $21.7 million. Theletters of credit include $18.6 million associated with the rail contract totransport metal concentrates to the port facilities, $2.0 million associatedwith the construction management contract and $1.1 million associated with the 

 

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power line construction. At March 31, 2006 the Company had deposited$20.6 million to collateralize certain of the letters of credit and hasrecorded that amount to restricted cash. Per the terms of the letters of creditthe required amounts may be reduced from time to time depending on certaincircumstances.

 

*EscrowAmounts*– At March 31, 2006 the Company had placed $6.8million in an escrow account to collateralize its discretionary metals tradingprogram. In addition, the Company has placed $4.0 million in an escrow accountto provide for certain requirements related to the development of the portfacility for the San Cristobal Project. At March 31, 2006 the $8.2 million inthese two escrow accounts was recorded as restricted cash.

 

*ProjectFinancing* – Per the terms and conditions of the SanCristobal Project finance facility the Company was required to deposit cash andinvestments in a fund the use of which is restricted to the development of theSan Cristobal Project. At March 31, 2006 the remaining balance in the accountwas $176.1 million which was recorded to restricted cash and restrictedinvestments. In addition, per the terms of the project finance facility theCompany has placed $70.4 million of investments in an account to provideover-run funding for the San Cristobal project if necessary. At March 31, 2006the amounts were recorded to restricted cash and restricted investments andwill be released upon certain project completion requirements being met or tofund over-runs should they occur.

 

*CapitalCommitments* – The Company has entered into agreementswith certain service providers and placed orders for certain long-leadequipment and construction materials for its San Cristobal project resulting inopen commitments totaling approximately $118.3 million at March 31, 2006. Ifthe Company had cancelled all of these agreements or orders at March 31, 2006,it would have incurred cancellation fees totaling approximately $21.4 million.

 

*Taxes*–The Company is receiving certain tax and duty benefits on a portion of theequipment it is importing for its San Cristobal Project. The benefits arecontingent upon fulfilling certain expenditure commitments within a specifiedperiod of time and returning certain equipment off shore within a specifiedperiod of time. Failing to comply with these commitments would obligate theCompany to refund all or a portion of the benefits received.

 

*OtherContingencies*– The Company reported in its 10-K filingfor the period ended December 31, 2005 that it had concluded an internalinvestigation regarding impermissible payments made to government official byseveral senior employees of one of its South American subsidiaries during 2003and 2004. The Company reported at that time that the SEC had commenced aninvestigation with respect to these matters including possible violations ofthe Foreign Corrupt Practices Act. We are cooperating fully with the SECinvestigation and will cooperate with any investigation by the U. S. Departmentof Justice. We cannot predict with any certainty at this time the final outcomeof any investigations that may take place including any fines or penalties thatmay be imposed.

 

**12.****  ForeignCurrency**

 

Losses on foreigncurrency derivatives and translation consist of the following:

 
| ** **                                                                     | ** ** | **Three Months Ended  March 31,** | ** ** |
|--------------------------------------------------------------------------------|------------|-----------------------------------|------------|
| ** **                                                                     | ** ** | **2006**                          | ** ** | **2005** | ** ** |
| ** **                                                                     | ** ** | **(in thousands)**                | ** ** |
| Loss on Euro  derivatives                                                      |       | $                                 | —     |   | $ | (618 | ) |
| Gain on  re-measurment of monetary assets denominated in other that US dollars |       | $                                 | 113        |   | $ | — |   |
| Total                                                                          |       | $                                 | 113        |   | $ | (618 | ) |

 

The re-measurementof monetary assets is related to certain taxes receivable and other accountsdenominated in Bolivianos.

 

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The loss on theEuro derivatives during 2005 is related to the marking to market of open Euroderivative positions held by the Company related to certain capital equipmentbeing purchased for San Cristobal in which the price was denominated in Euros.The Company held no such derivative positions at March 31, 2006.

 

**13.****  Supplementalcash flow information**

 

The following table setsforth supplemental cash flow information and non-cash transactions:

 
| ** **                                             | ** ** | **Three Months Ended  March 31,** | ** ** |
|--------------------------------------------------------|------------|-----------------------------------|------------|
| ** **                                             | ** ** | **2006**                          | ** ** | **2005** | ** ** |
| ** **                                             | ** ** | **(in thousands)**                | ** ** |
| **Supplemental disclosure:**                           | ** ** | ** **                        | ** ** | ** ** | ** ** |
| Interest paid                                          |       | $                                 | 5,477      |   | $ | 5,208 |   |
|                                                   |       |                              |       |   |   |
| **Supplemental disclosure of non-cash  transactions:** | ** ** | ** **                        | ** ** | ** ** | ** ** |
| Depreciation  expense capitalized                      |       | $                                 | 1,145      |   | $ | 143 |   |
| Interest expense  capitalized                          |       | $                                 | 4,296      |   | $ | 1,104 |   |
| Accrued interest  capitalized                          |       | $                                 | 483        |   | $ | 201 |   |
| Stock issued as  compensation to consultants           |       | $                                 | 45         |   | $ | 63 |   |
| Mark-to-market  loss on derivatives                    |       | $                                 | 55,811     |   | $ | 374 |   |
| Accrued property  plant & equipment                |       | $                                 | (10,721    | ) | $ | 17,876 |   |
| Capitalized  leases                                    |       | $                                 | 1,270      |   | $ | — |   |
| Stock issued to  purchase debt                         |       | $                                 | 17,125     |   | $ | — |   |

 

During the firstquarter 2006 the Company had entered into certain capital leases that resultedin non-cash increases to property, plant and equipment and long term debt of$1.3 million.

 

**14.****  SubsequentEvents**

 

During April 2006the Company completed the registered offering of 6,375,000 of its OrdinaryShares at $24.45 per share ($23.70 per share net of commissions) pursuant toits shelf registration statement. The Company intends to use the net proceedsof approximately $151.1 million to continue further evaluation, exploration,advancement and expansion of its portfolio of exploration properties and forother general corporate purposes.

 

During April 2006 theCompany borrowed an additional $20 million against the $225 million projectfinance facility, bringing to $60 million the total borrowings against thefacility. The funds are restricted to the development of the San CristobalProject.

 

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**Item 2:****           Management’sDiscussion and Analysis of Financial Condition and Results of Operations**

 

**General**

 

The following discussion and analysis summarizes theresults of operations of Apex Silver Mines Limited (“Apex Silver” or “we”) forthe three month period ended March 31, 2006 and changes in our financialcondition from December 31, 2005. This discussion should be read in conjunctionwith the Management’s Discussion and Analysis included in our Annual Report onForm 10-K for the period ended December 31, 2005.

 

Apex Silver is a mining exploration and developmentcompany that holds a portfolio of exploration and development propertiesprimarily in South America and Central America. We currently focus ourresources primarily on the development of our San Cristobal Project in Bolivia.At present, none of our properties are in production and, consequently, we haveno current operating income.

 

**Overview**

 

During the first quarter of 2006 we continued to makesignificant progress on the construction of our San Cristobal Project inBolivia with expenditures of approximately $76 million on equipmentprocurement, plant construction, infrastructure development, engineering andother costs. Significant progress was made on construction of the primarycrusher and the associated conveyor system, the installation of mills, concretework and power line construction during the quarter. At March 31, 2006 theproject was estimated to be approximately 54% completed and is continuing totrack within budget and on time. We anticipate commencement of production at theproject in the third quarter of 2007.

 

We began mining oxide ores at the San CristobalProject during the first quarter 2006. At March 31, 2006 we had stockpiledapproximately 700,000 tonnes of work-in-process ore inventories recorded at acost of $3.6 million. Work-in-process inventories include ore produced andstockpiled for which further processing is necessary before a product is readyfor sale. We are scheduled to begin processing work-in-process ore inventoriesto a salable product during the third quarter of 2007.

 

During the quarter ended March 31, 2006 we issuedapproximately 1.1 million Ordinary Shares valued at $17.1 million and $0.3million of cash for unpaid interest to complete the purchase of $20.0 millionprincipal amount of our 4.0% Convertible Senior Subordinated Notes due 2024 ina privately negotiated exchange transaction. The transaction resulted in therecognition of a $2.9 million gain on extinguishment of debt. The Companycanceled the notes purchased in the transaction.

 

During the first quarter of 2006 we initiated borrowing under the $225million San Cristobal project finance facility that we closed during December2005. At March 31, 2006 we had borrowed $40.0 million under the facility.During April 2006 we borrowed an additional $20 million against the facility,bringing to $60 million the total borrowings against the facility.

 

During April 2006 wecompleted the sale of 6,375,000 of our Ordinary Shares at $24.45 per share($23.70 per share net of commissions). We intend to use the net proceeds ofapproximately $151.1 million to continue further evaluation, exploration,advancement and expansion of our portfolio of exploration properties and forother general corporate purposes. With this additional available funding we areformulating plans to accelerate the evaluation of our current explorationportfolio and the expansion of new exploration opportunities.

 

During the quarterended March 31, 2006 we recorded mark-to-market losses related to our metalsderivative open positions in the amount of $59.0 million. The open metalspositions are primarily related to the project finance facility requirement toprovide price protection for a portion of our planned production of metals fromSan Cristobal. In addition, the Company continues to make limited investmentsin shorter duration put and call options and other metals derivatives notrequired by the project financing. The recent increases in the spot and forwardprices for silver, zinc and lead resulted in the mark-to-market loss for thequarter. The loss did not have a material impact on our cash flows or cashposition for the period. Further, while the final financial impact of therequired price protection program will not be known until the positions areclosed on their future settlement dates, we do not intend to settle the openpositions with cash prior to the settlement dates beginning in 2007. At 

 

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the time of finalsettlement, the gain or loss recorded will exclude previously recognizedmark-to-market gains or losses. In addition, should the increased metals priceprojections used to calculate the mark-to-market loss continue into theproduction phase of the San Cristobal Project, the increased revenue from salesof unhedged metals would generate a significant benefit to future earnings andcash flows. During the periods that the metal derivative positions areoutstanding, gains and losses may fluctuate substantially from period to periodin accordance with Statement of Financial Accounting Standards No. 133,“Accounting for Derivative Instruments and Hedging Activities” (“FAS 133”),based on spot prices, forward prices and quoted option volatilities. If currentspot prices continue into future periods that include the settlement dates ofthe Company’s open derivative positions, the Company will report furthermark-to-market losses in subsequent periods.

 

At March 31, 2006we have open contractual commitments of approximately $118.3 million related tocontractor agreements and material and equipment orders associated with theconstruction of our San Cristobal Project. During the remainder of the year weexpect to spend approximately $240 million on the above commitments as well ason other San Cristobal Project construction and development. In addition, forthe remainder of the year we expect to spend approximately $10 million ongeneral corporate costs and we will be required to make interest payments ofapproximately $4 million on our outstanding debt. Our current plans call for expendituresof approximately $7 million on exploration efforts for the remainder of theyear. However, with the additional available funding from the sale of OrdinaryShares discussed above, we are formulating plans to accelerate the evaluationof our current exploration portfolio and the expansion of new explorationopportunities which will likely increase the current estimate.

 

With theinstallation of the new government in Bolivia we continue to monitor thepolitical uncertainties that may affect our San Cristobal Project. Newlyelected Bolivian President Evo Morales who took office in January 2006 has issueda decree nationalizing the country’s hydrocarbon industry. To date, there havebeen no formal proposals by the Bolivian government to nationalize the miningindustry but it is possible that the government may alter its current policieswith respect to the mining industry in the future.

 

**Results of Operations – ThreeMonths Ended March 31, 2006**

 

*Exploration.*Exploration expensewas $1.5 million for the first quarter 2006 compared to $1.3 million for thefirst quarter 2005. Exploration expense is incurred primarily in Bolivia, Peru,Argentina and Mexico with additional expenditures in Argentina during the firstquarter of 2006.

 

*Administrative.*Administrativeexpense was $5.3 million for the first quarter 2006, compared to $3.9 millionfor the first quarter of 2005. The increase in administrative expense during2006 is primarily the result of additional personnel and related indirectsupport costs associated with the advancement of our San Cristobal Project andcertain legal fees and other costs associated with the investigation of apossible violation of the Foreign Corrupt Practices Act as previously reported.

 

*Gainsand Losses - Commodity Derivatives*. For the quarter endedMarch 31, 2006 we recorded mark-to-market losses related to our metalsderivative open positions in the amount of $59.0 million compared to amark-to-market loss of $0.4 million on our open positions for the quarter endedMarch 31, 2005. The 2006 loss is the result of the mark-to-market valuation ofour open metals positions at March 31, 2006 primarily related to the projectfinance facility requirement to provide price protection for a portion of ourplanned production of metals from San Cristobal. The recent increases in thespot and forward prices for silver, zinc and lead resulted in the $59.0 millionmark-to-market loss for the year. The loss did not have a material impact onour cash flows or cash position for the period. Our open metals derivativeposition for the quarter ended March 31, 2005 was substantially smaller priorto the lending requirements as reflected in the smaller non-cash mark-to-marketloss. (See “Overview” for additional discussion of the first quarter 2006mark-to-market derivative loss)

 

*Interest and other income.*Interest and other income was $2.9 million for the first quarter 2006 comparedto $3.4 million recorded during the first quarter 2005. The 2006 decrease isprimarily the result of less interest earned because of lower average aggregatecash, cash equivalent and investment balances held during 2006 as compared tothe same period of 2005. The lower average aggregate cash, cash equivalent andinvestment balances are primarily the result of the investment we made over theyear in the 

 

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development of ourSan Cristobal Project. Interest and other income for the first quarter 2006includes a $0.4 million loss on certain held to maturity investments that wereliquidated prior to their maturity dates as a requirement of the projectfinancing facility.

 

*Interest expense and other borrowing costs.*Interestand other borrowing costs were $0.5 and $2.0 million, net of approximately $4.3and $0.7 million capitalized, for the first quarter of 2006 and 2005,respectively. The 2006 interest expense includes a $0.5 million write off ofdeferred issuance costs related to the extinguishment of debt. The interestexpense for 2006 is primarily related to the Convertible Senior SubordinatedNotes Due 2004 and the project finance facility while the 2005 interest expenseis primarily related to the Convertible Senior Subordinated Notes Due 2004.

 

*Income Taxes*. For the quarter ended March31, 2006 we recorded approximately $0.1 million of income tax expense relatedto withholding taxes on certain services we provided to one of our Boliviansubsidiaries. No such taxes were incurred during the quarter ended March 31,2005.

 

**Liquidity and Capital Resources**

 

At March 31, 2006 our aggregatecash, restricted cash, short and long term investments and restrictedinvestments totaled $304.3 million compared to an aggregate of $351.9 millionin cash, restricted cash, short and long term investments and restrictedinvestments at December 31, 2005. The amounts held at March 31, 2006 include$9.3 million in cash and cash equivalents, $1.1 million in short terminvestments, $46.6 million of cash that has been restricted to collateralizeoutstanding letters of credit, the discretionary metals hedge position andcertain obligations related to the projectfinance facility and $247.2 million of short and long term investments composedof $231.3 million that is restricted to fund development and possible over runsat our San Cristobal Project and $15.9 million that at maturity will providethe amounts necessary to pay interest through September 2007 on the 4.0%Convertible Senior Subordinated Notes Due 2024.

 

As of March 31, 2006, we hadcash and cash equivalents of $9.3 million, compared to $4.8 million at December31, 2005. The increase in our cash balance at March 31, 2006 is the result of anet decrease in restricted cash of $88.6 million, $40.0 million of borrowingsagainst the project finance facility, $5.7 million of net proceeds fromthe sale of Ordinary Shares to fund the power line construction and $1.4million of proceeds from employee stock options exercised, all partially offsetby $76.1 million invested in property, plant and equipment related to thedevelopment of the San Cristobal Project, $12.1 million used to fundoperations, property holding costs and administrative costs, net of interestand other income, the net purchase of $35.5 million of investments, $3.2million of net premiums paid to acquire derivatives related to our hedgeposition, $3.4 million paid to suppliers and contractors related to our SanCristobal Project, $0.2 million paid to the banks related to the creditfacility and payments on long term debt (capital lease payments) of $0.6million.

 

Our estimate for the total amount of project fundingrequired for the San Cristobal Project from January 1, 2004 through thebeginning of production in 2007 is approximately $600 million. This amountincludes all estimated costs required to commence production at San Cristobal,including all engineering, procurement and construction costs, as well asestimates for constant-dollar escalation and contingencies. The estimateexcludes $22 million advanced through the issuance of Ordinary Shares to thecompany constructing the power line, $6 million advanced to or escrowed for thecompany constructing the port facilities and $27 million of working capital.Advances to the power line and port facility providers are expected to berecouped through credits applied against payments for the contracted services.Including the power line and port advances, we spent approximately $206 millionon the Project during 2004 and 2005 and $76 million during the first quarter2006. In addition to the amounts above, we expect to incur interest and otherfinancing costs related to the project finance facility of approximately $30million.

 

During April 2006we completed the sale of 6,375,000 of our Ordinary Shares at $24.45 per share($23.70 per share net of commissions). We intend to use the net proceeds ofapproximately $151.1 million to continue further evaluation, exploration,advancement and expansion of our portfolio of exploration properties and forother general corporate purposes.

 

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For the remaining nine months of 2006, we expect tospend about $240 million on the San Cristobal Project including the purchase ofequipment, construction materials, payments to contractors and otherdevelopment costs already accrued or to be incurred during the year. Funds forthis purpose will be provided by liquidating a portion of our restrictedinvestments set aside for this purpose and drawing on additional funds from theproject financing. In addition, for the remaining nine months of 2006 we expectto spend approximately $10 million on general corporate costs and approximately$4 million on interest payments. Our current plans call for expenditures ofapproximately $7 million on exploration efforts for the remainder of the year.With the additional available funding from the sale of Ordinary Sharesdiscussed above, we are formulating plans to accelerate the evaluation of ourcurrent exploration portfolio and the expansion of new explorationopportunities that will likely increase our 2006 exploration expenditures. Weplan to fund these project, operating and financing cash expenditures from ourexisting cash and investment balances and from interest and other income.

 

**Significant Accounting Policies**

 

During 2006 we have adopted and/or implemented thefollowing new accounting policies:

 

Effective January1, 2006 the Company adopted Financial Accounting Standards No. 123R,“Share-Based Payment” (“FAS No. 123R”), using the modified prospectiveapproach, which revised Statement of Financial Accounting Standards No. 123 “Accountingfor Stock-Based Compensation” (“FAS No. 123”), and superseded APB Opinion 25,“Accounting for Stock Issued to Employees” and its related implementationguidance. The Company is currently evaluating whether it will adopt theshort-cut method for calculating the pool of windfall tax benefits as allowedby Financial Accounting Standards Board (“FASB”) Statement of Position FAS No.123R-3. The Company had previously adopted FAS No. 123 effective January 1,2004. FAS No. 123R requires measurement and recording in the financialstatements of the costs of employee services received in exchange for an awardof equity instruments based on the grant-date fair value of the award,recognized over the period during which an employee is required to provideservices in exchange for such award. Additionally, FAS No. 123R requirescompanies that did not previously include the effects of estimated forfeituresin the FAS No. 123 expenses they reported, to record a cumulative adjustment tothe income statements presented in the period of adoption of FAS No. 123R inorder to reflect the effect of the estimated forfeitures. The forfeiture rateused by the Company prior and subsequent to the adoption of FAS No. 123R hasnot changed and, therefore, the Company did not record a cumulative effectadjustment related to prior period estimated forfeitures. The adoption of FASNo. 123R did not have a material impact on the Company’s financial position orresults of operations and is not expected to have a material impact in thefuture (see Note 10).

 

During 2004, acommittee of the Emerging Issues Task Force (“EITF”) began discussing theaccounting treatment for stripping costs incurred during the production phaseof a mine. During March 2005, the EITF reached a consensus that stripping costsincurred during the production phase of a mine are variable production coststhat should be included in the costs of inventory produced during the periodthat the stripping costs are incurred. The FASB ratified the EITF consensus.The EITF consensus is effective for the first reporting period in fiscal yearsbeginning after December 15, 2005. In January 2006, the EITF issued additionalguidance defining the commencement of production as the period when saleableminerals are first extracted in greater than *de minimis*amounts. In February 2006, the company began mining significant amounts ofoxide ore reserves at its San Cristobal project, which have been placed instockpiles for future processing. The quantity and value of the minerals minedwere sufficient to declare the start of production according to the EITFconsensus. The Company has included the costs associated with the oxide oreproduction as long term inventory on its financial statements. The Companyexpects the mining of significant amounts of oxide material to continuethroughout the year, with the commencement of sulfide ore mining in the secondhalf of the year.

 

**New and Recent Accounting Developments**

 

At a meeting heldin March, 2006 the EITF reached a tentative consensus on EITF Issue No. 05-1that the issuance of equity securities to settle an instrument that becomesconvertible upon the issuer’s exercise of a call option should be accounted foras a conversion (as opposed to an extinguishment) if, at issuance, the debtinstrument contains a substantive conversion feature other than the issuer’scall option. The EITF concluded that if an instrument is deemed convertible atissuance, then a subsequent conversion of the instrument is in accordance witha “conversion privilege that existed at issuance” and is, therefore, outsidethe scope of APB Opinion No. 26, Early Extinguishment of Debt. Therefore, theissuance of shares to 

 

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settle the debtpursuant to the original terms of the instrument should be afforded conversiontreatment. If the instrument does not contain a substantive conversion featureat issuance, then the issuance of equity securities to settle the instrumentshould be recognized as a debt extinguishment. EITF Issue No. 05-1 will becomeeffective following its anticipated ratification scheduled for June 2006. TheCompany has previously accounted for two transactions involving the buy-back ofits convertible debt as an extinguishment under APB Opinion No. 26.Ratification of EITF Issue No. 05-1 would require similar transactions to beaccounted for prospectively as a conversion.

 

Effective foryears beginning after December 15, 2005 the Company has adopted FinancialAccounting Standards No. 154, “Accounting Changes and Error Corrections – areplacement of APB Opinion No. 20 and FASB Statement No. 3” (“FAS No. 154”).FAS No. 154 changes the requirements for the accounting and reporting of achange in accounting principle. The statement applies to voluntary changes aswell as changes required by accounting pronouncements which do not otherwiseprovide specific transition provisions, requiring retrospective application toprior period’s financial statements where not impractical. FAS No. 154 did nothave a material impact on the Company’s financial position or results ofoperations for the period and is not expected to have a material impact in thefuture.

 

## **ContractualObligations**

## ** **

We have enteredinto agreements with certain service providers and placed orders for certainequipment and construction materials for our San Cristobal Project resulting incommitments totaling approximately $118.3 million at March 31, 2006. If we hadcancelled all of these agreements or orders at March 31, 2006, we would haveincurred cancellation fees totaling approximately $21.4 million.

 

## **Forward-LookingStatements**

 

Some informationcontained in or incorporated by reference into this report may containforward-looking statements. These statements include comments regarding SanCristobal development and construction plans, capital and other costs, fundingand timing; the timing of completion of San Cristobal construction, start-upand commencement of operations; spending during 2006; the likely increasedvolatility in future earnings due to forward sales, derivative positions andmetals trading activity; and the timing and amounts of spending on theevaluation and expansion of our exploration portfolio. The use of any of thewords “anticipate,” “continues,” “estimate,” “expect,” “may,” “will,”“project,” “should,” “believe” and similar expressions are intended to identifyuncertainties. We believe the expectations reflected in those forward-lookingstatements are reasonable. However, we cannot assure that these expectationswill prove to be correct. Actual results could differ materially from thoseanticipated in these forward-looking statements as a result of the factors setforth below and other factors set forth in, or incorporated by reference intothis report:

 

•      worldwideeconomic and political events affecting the supply of and demand for silver,zinc and lead;

 

•      politicalunrest and economic instability in Bolivia including the communities locatednear the San Cristobal Project and other countries in which we conductbusiness;

 

•      futureactions of the Bolivian government with respect to nationalization of gas andother natural resources;

 

•      Changesin the mining policies of the Bolivian government;

 

•      volatilityin market prices for silver, zinc and lead;

 

•      financialmarket conditions;

 

•      uncertaintiesassociated with developing a new mine, including potential cost overruns andthe unreliability of production and cost estimates in early stages of minedevelopment;

 

•      variationsin ore grade and other characteristics affecting mining, crushing, milling andsmelting operations and mineral recoveries;

 

•      geological,technical, permitting, mining and processing problems;

 

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•      theavailability, terms, conditions and timing of required government permits andapprovals;

 

•      uncertaintiesregarding future changes in applicable law or implementation of existing law,including Bolivian laws related to tax, mining, environmental matters andexploration; and

 

•      thefactors discussed under “Risk Factors” in our Form 10-K for the period endedDecember 31, 2005.

 

Many of thosefactors are beyond our ability to control or predict. You should not undulyrely on these forward-looking statements. These statements speak only as of thedate of this report on Form 10-Q. Except as required by law, we are notobligated to publicly release any revisions to these forward-looking statementsto reflect future events or developments.

 

## **Item3.**    Quantitative and QualitativeDisclosures About Market Risk and Hedging Activities

 

Currently our major principal cash balances are heldin U.S. dollars. We maintain minimum cash balances in foreign currencies andtherefore have a relatively low exposure to currency fluctuations. We havepreviously engaged in a limited amount of currency hedging activities primarilyrelated to an equipment order for our San Cristobal Project that wasdenominated in Euros. In addition, because we conduct our activities mainly inBolivia, as well as in several other foreign countries, we may in the futureengage in hedging activities to minimize the risk of exposure to currency andinterest rate fluctuations.

 

We manage the timing of the cash required to constructthe San Cristobal Project, to fund general corporate costs, exploration andother funding requirements and invest funds not immediately required ininvestments with varying maturities. Our policy is to invest only in governmentand corporate securities rated “investment grade” or better.

 

Tocomplete the project financing for San Cristobal, we were required to hedge a portionof our planned production from San Cristobal. In addition, when San Cristobalenters production, we may sell forward a portion of our production and useprice hedging techniques to mitigate some of the risks associated withfluctuating metals prices. We recorded a non-cash mark-to-market trading lossfor the three months ended March 31, 2006 of approximately $59.0 million. See“Management’s Discussion and Analysis of Financial Condition and Results ofOperations – Results of Operations.”

 

# **Item 4. Controls and Procedures**

 

(a)   Disclosure Controls andProcedures

 

We maintain disclosure controls and procedures thatare designed to ensure that information required to be disclosed in the reportswe file or submit under the Securities and Exchange Act of 1934 is recorded,processed, summarized and reported within the time periods specified in theSEC’s rules and forms, and that such information is accumulated andcommunicated to Apex Silver’s management, including its Chief Executive Officerand Chief Financial Officer, as appropriate, to allow timely decisionsregarding required financial disclosure.

 

As of the end of the period covered by this report, wecarried out an evaluation, under the supervision and with the participation ofour Disclosure Committee and management, including the Chief Executive Officerand Chief Financial Officer, of the effectiveness and design and operation ofour disclosure controls and procedures pursuant to Exchange Act Rule 13a-15(e)under the Securities and Exchange Act of 1934. Based upon, and as of the dateof, this evaluation, the Chief Executive Officer and Chief Financial Officerconcluded that our disclosure controls and procedures were effective.

 

(b)   Change in Internal Control overFinancial Reporting

 

Apex Silver’s management is responsible forestablishing and maintaining adequate internal control over financial reportingas defined in Rule 13a-15(f) under the Securities Exchange Act of 1934. Ourinternal control over financial reporting is a process designed to provide reasonableassurance regarding the reliability of financial reporting and the preparationof financial statements for external purposes in accordance with generallyaccepted accounting principles (GAAP). Because of its inherent limitations,internal control over financial reporting may not prevent or detectmisstatements. Also, projections of any 

 

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evaluation ofeffectiveness to future periods are subject to the risk that controls maybecome inadequate because of changes in conditions, or that the degree ofcompliance with policies and procedures may deteriorate.

 

There has been no change in the Company’s internalcontrol over financial reporting during the most recent fiscal quarter that hasmaterially affected, or that is reasonably likely to materially affect, theCompany’s internal control over financial reporting.

 

PART II: OTHER INFORMATION

 

## **Item1.**    Legal Proceedings

 

We reported in our 10-Kfiling for the period ended December 31, 2005 that the SEC has commenced aninvestigation into possible violations of the Foreign Corrupt Practices Act byone of our South American subsidiaries following our voluntary report to theSEC and Department of Justice of the results of our internal investigation.

 

## **Item1A. Risk Factors**

 

Other than as set forthbelow, there were no material changes from the risk factors as previouslydiscussed in our Form 10-K for the year ended December 31, 2005.

 

**Our SanCristobal Project may be adversely affected by changes in government policiestoward the mining industry.**

 

On May 1, 2006, PresidentEvo Morales of Bolivia, who took office in January 2006, signed a decree whicheffectively nationalized Bolivia’s hydrocarbon industry, ordering the country’sarmed forces to take control of all companies involved in the production,transport, refining or distribution of oil and gas.  Although the previous owners of the companieshave been permitted to continue operating, the nationalization decree providesthat most revenues derived from the production and sale of hydrocarbons inBolivia will be the property of the government. President Morales and others in his administration have made publicstatements regarding their desire to exert greater state control over allnatural resource production in Bolivia, including mining.

 

To date, there have beenno formal proposals to nationalize the mining industry.   The government may, however, alter itscurrent policies with respect to the mining industry.  If the San Cristobal Project werenationalized, we might be unable to recover any significant portion of ourinvestment in the project.  Thegovernment could also substantially increase mining taxes or requiresignificant royalty payments, which could have a material adverse effect on theprofitability of the San Cristobal Project.  If  as a result of changes ingovernment policy, we did not complete construction of the San CristobalProject, we could have substantial liabilities in connection with our hedgepositions.  We do not maintain politicalrisk insurance to cover losses that we may incur as a result ofnationalization, expropriation or similar events in Bolivia.  The banks, other than CAF, do, howevermaintain political risk insurance to cover their loan and hedge positionexposures.  Amounts payable with respectto such insurance would be payable directly to the lenders or hedgecounterparties and would not cover any portion of our investment in theproject.

 

## **Item2.**    Unregistered Sales of EquitySecurities and Use of Proceeds

 

During the quarter endedMarch 31, 2006 we issued 1,086,653 Ordinary Shares, exempt from registrationpursuant to section 3(a) (9) of the U. S. Securities Act of 1933, as amended,to purchase for retirement $20,000,000 of convertible debt.

 

## **Item3.**    Defaults Upon Senior Securities

 

None.

 

## **Item4.**    Submission of Matters to aVote of Security Holders

 

None.

 

**Item 5.****    OtherInformation**

 

None.

 

**Item 6.****    Exhibits**

 
| 10.1 |   | Underwriting agreement  with Harris Nesbitt Corp. dated April 6, 2006                                                                      |
|------|--------|--------------------------------------------------------------------------------------------------------------------------------------------|
| 31.1 |   | Certification of Chief  Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act                                                |
| 31.2 |   | Certification of Chief  Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act                                                |
| 32   |   | Certification of Chief  Executive Officer and Chief Financial Officer pursuant to 18 U.S.C., 1350 (Section  906 of the Sarbanes-Oxley Act) |

 

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SIGNATURES

 

Pursuant to therequirements of the Securities Exchange Act of 1934, the registrant has dulycaused this report to be signed on behalf of the undersigned thereunto dulyauthorized.

 

 
|   | APEX SILVER MINES  LIMITED |
|--------|----------------------------|
|   |                       |
|   |                       |
| Date:  | May 9, 2006                | By: | \s\ Jeffrey G.  Clevenger |   |
|   |                       |   | Jeffrey G. Clevenger |
|   |                       |   | President and Chief  Executive Officer |
|   |                       |   |
|   |                       |   |
| Date:  | May 9, 2006                | By: | \s\ Mark A. Lettes |   |
|   |                       |   | Mark A. Lettes |
|   |                       |   | Senior Vice President  and Chief Financial Officer |

 

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