** **

**UNITED STATESSECURITIES AND EXCHANGE COMMISSION**

**Washington, DC 20549**

**FORM 10-Q**
| **(Mark One)**                                                                                                                                                                                                            |
|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| ** **                                                                                                                                                                                                                | ** ** |
| **x**                                                                                                                                                                                                                     | **QUARTERLY  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES  EXCHANGE ACT OF 1934** |
|                                                                                                                                                                                                                      |   |
| **For the  quarterly period ended:  March 31,  2006**                                                                                                                                                           |
|                                                                                                                                                                                                                      |   |
| **o**                                                                                                                                                                                                                     | **TRANSITION  REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES  EXCHANGE ACT OF 1934** |
| ** **                                                                                                                                                                                                                | ** ** |
| **For the  transition period from               to               ** |
|                                                                                                                                                                                                                           |  |  |

 

**Commission File Number: 000-29098**

**BPZ ENERGY, INC.**

(Exactname of registrant as specified in its charter)

| **Colorado**                                    |   | **33-0502730**                           |
|-------------------------------------------------|--------|------------------------------------------|
| (State or other  jurisdiction of incorporation) |   | (I.R.S. Employer  Identification Number) |

 

**580 Westlake Park Blvd., Suite 525****Houston, Texas 77079**(Address of principal executive office)

Registrant’s telephone number, including area code:**(281) 556-6200**

Indicateby check mark whether the registrant (1) filed all reports required to befiled by Section 13 or 15(d) of the Exchange Act during the past 12months (or for such shorter period that the registrant was required to filesuch reports), and (2) has been subject to such filing requirements forthe past 90 days.  Yes  x    No  o

Indicate by check markwhether the registrant is a large accelerated filer, an accelerated file or anon-accelerated filer.  See definition of“accelerated filer” and “large accelerated filer” in Rule 12b-2 of the ExchangeAct.  (Check one):

LargeAccelerated Filer o   Accelerated Filer o   Non-Accelerated Filer x

Indicate by check markwhether the registrant is a shell company (as defined in Rule 12b-2 of theExchange Act).Yes  o    No  x

Indicate the number of shares outstanding of each ofthe issuer’s classes of common stock, as of the latest practicable date:

As of September 12, 2006, there were 47,264,809shares of common stock, no par value, outstanding.

 

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**TABLE OF CONTENTS**
| **PART I**  |
|------------------|
|             |   |   |
| Item 1.          | Financial  Statements |   |
|             |   |   |
|             | Consolidated  Balance Sheets |   |
|             |   |   |
|             | Consolidated  Statements of Operations |   |
|             |   |   |
|             | Consolidated  Statement of Stockholders’ Equity |   |
|             |   |   |
|             | Consolidated  Statements of Cash Flows |   |
|             |   |   |
|             | Notes to Consolidated 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 |   |
|             |   |   |
| Item 4.          | Controls and  Procedures |   |
|             |   |   |
| **PART II** |
|             |   |   |
| 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**

**Item 1.  Financial Statements**

**BPZ Energy, Inc. and Subsidiaries(An Exploratory Stage Company)**

**ConsolidatedBalance Sheets**
| ** **                                                                                                                                                          | ** ** | **March 31,  2006** | ** ** | **December 31,  2005** | ** ** |
|---------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|--------------------------|------------|-----------------------------|------------|
| ** **                                                                                                                                                          | ** ** | **(Unaudited)**          | ** ** | **(Restated)**              | ** ** |
| **ASSETS**                                                                                                                                                          |       |                     |       |                        |       |
| Current assets:                                                                                                                                                     |       |                     |       |                        |       |
| Cash and cash  equivalents                                                                                                                                          |       | $                        | 26,962,895 |                        | $          | 29,455,130 |   |
| Other                                                                                                                                                               |       | 1,648,116                |       | 869,669                     |       |
| Total current  assets                                                                                                                                               |       | 28,611,011               |       | 30,324,799                  |       |
|                                                                                                                                                                |       |                     |       |                        |       |
| Property,  equipment and construction in progress, net                                                                                                              |       | 8,738,948                |       | 4,365,040                   |       |
| Restricted cash                                                                                                                                                     |       | 1,455,953                |       | 1,455,953                   |       |
| Investment in  Ecuador property, net                                                                                                                                |       | 1,898,292                |       | 1,945,188                   |       |
|                                                                                                                                                                |       |                     |       |                        |       |
| Total assets                                                                                                                                                        |       | $                        | 40,704,204 |                        | $          | 38,090,980 |   |
|                                                                                                                                                                |       |                     |       |                        |       |
| **LIABILITIES  AND STOCKHOLDERS’ EQUITY**                                                                                                                      |       |                     |       |                        |       |
|                                                                                                                                                                |       |                     |       |                        |       |
| Current liabilities:                                                                                                                                                |       |                     |       |                        |       |
| Accounts payable                                                                                                                                                    |       | $                        | 419,250    |                        | $          | 747,347 |   |
| Accrued  liabilities                                                                                                                                                |       | 553,568                  |       | 470,632                     |       |
| Other  liabilities                                                                                                                                                  |       | 72,710                   |       | 70,516                      |       |
|                                                                                                                                                                |       |                     |       |                        |       |
| Total current  liabilities                                                                                                                                          |       | 1,045,528                |       | 1,288,495                   |       |
|                                                                                                                                                                |       |                     |       |                        |       |
| Long-term debt                                                                                                                                                      |       | 68,930                   |       | 70,908                      |       |
|                                                                                                                                                                |       |                     |       |                        |       |
| Stockholders’ equity:                                                                                                                                          |       |                     |       |                        |       |
| Preferred stock,  no par value, 25,000,000 authorized, none issued and outstanding                                                                                  |       | —                   |       | —                      |       |
| Common stock, no  par value, 250,000,000 authorized; 42,452,515 and 40,349,979 shares issued  and outstanding at March 31, 2006 and December 31, 2005, respectively |       | 63,184,839               |       | 56,873,641                  |       |
| Additional paid  in capital                                                                                                                                         |       | 5,711,133                |       | 6,393,411                   |       |
| Deferred  stock-based compensation                                                                                                                                  |       | (3,524,257               | )          | (3,992,172                  | )          |
| Stock  subscription receivable                                                                                                                                      |       | (230,825                 | )          | (230,825                    | )          |
| Deficit  accumulated during the exploratory stage                                                                                                                   |       | (25,551,144              | )          | (22,312,478                 | )          |
|                                                                                                                                                                |       |                     |       |                        |       |
| Total  stockholders’ equity                                                                                                                                    |       | 39,589,746               |       | 36,731,577                  |       |
|                                                                                                                                                                |       |                     |       |                        |       |
| Total liabilities and  stockholders’ equity                                                                                                                    |       | $                        | 40,704,204 |                        | $          | 38,090,980 |   |

 

The accompanying notes are an integral part of theseconsolidated financial statements.

3

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**BPZ Energy, Inc. and Subsidiaries(An Exploratory Stage Company)**

**ConsolidatedStatements of Operations(Unaudited)**
| ** **                                                       | ** ** | **Cumulative  Amounts from  August 20, 2001  (Inception) to** | ** **  | **Three Months Ended March 31,** | ** ** |
|------------------------------------------------------------------|------------|-----------------------------------------------------------------------------------|-------------|------------------------------------------------------|------------|
| ** **                                                       | ** ** | **March 31, 2006**                                                      | ** **  | **2006**                                             | ** ** | **2005** | ** ** |
| ** **                                                       | ** ** | ** **                                                                        | ** **  | ** **                                           | ** ** | **(Restated)** | ** ** |
| Revenue                                                          |       | $                                                                                 | —      |                                                 | $          | — |   | $ | — |   |
|                                                             |       |                                                                              |        |                                                 |       |   |   |
| Operating and  administrative expenses:                          |       |                                                                              |        |                                                 |       |   |   |
| General and  administrative                                      |       | 8,753,217                                                                         |        | 1,575,440                                            |       | 960,789 |   |
| Stock-based  compensation                                        |       | 8,984,475                                                                         |        | 542,915                                              |       | 75,000 |   |
| Geological,  geophysical and engineering                         |       | 1,825,499                                                                         |        | 466,403                                              |       | 138,065 |   |
| Depreciation  expense                                            |       | 66,963                                                                            |        | 37,168                                               |       | 650 |   |
|                                                             |       |                                                                              |        |                                                 |       |   |   |
| Total operating  expenses                                        |       | 19,630,154                                                                        |        | 2,621,926                                            |       | 1,174,504 |   |
|                                                             |       |                                                                              |        |                                                 |       |   |   |
| Operating loss                                                   |       | (19,630,154                                                                       | )           | (2,621,926                                           | )          | (1,174,504 | ) |
|                                                             |       |                                                                              |        |                                                 |       |   |   |
| Other income (expense):                                          |       |                                                                              |        |                                                 |       |   |   |
| Income from  investment in Ecuador property, net of amortization |       | 806,242                                                                           |        | 189,655                                              |       | 87,794 |   |
| Interest expense                                                 |       | (79,560                                                                           | )           | (1,452                                               | )          | (5,662 | ) |
| Amortization of  deferred financing costs                        |       | (428,000                                                                          | )           | —                                               |       | (28,955 | ) |
| Registration  delay expense                                      |       | (1,547,913                                                                        | )           | (1,031,946                                           | )          | — |   |
| Interest income                                                  |       | 731,811                                                                           |        | 222,003                                              |       | — |   |
| Merger costs                                                     |       | (5,470,455                                                                        | )           | —                                               |       | — |   |
| Miscellaneous  income                                            |       | 66,885                                                                            |        | 5,000                                                |       | 8,478 |   |
|                                                             |       |                                                                              |        |                                                 |       |   |   |
| Total other  income (expense)                                    |       | (5,920,990                                                                        | )           | (616,740                                             | )          | 61,655 |   |
|                                                             |       |                                                                              |        |                                                 |       |   |   |
| Loss before income  taxes                                        |       | (25,551,144                                                                       | )           | (3,238,666                                           | )          | (1,112,849 | ) |
|                                                             |       |                                                                              |        |                                                 |       |   |   |
| Income taxes                                                     |       | —                                                                            |        | —                                               |       | — |   |
|                                                             |       |                                                                              |        |                                                 |       |   |   |
| Net loss                                                         |       | $                                                                                 | (25,551,144 | )                                                    | $          | (3,238,666 | ) | $ | (1,112,849 | ) |
|                                                             |       |                                                                              |        |                                                 |       |   |   |
| Basic and diluted net  loss per share                            |       |                                                                              |        | $                                                    | (0.08      | ) | $ | (0.04 | ) |
|                                                             |       |                                                                              |        |                                                 |       |   |   |
| Weighted average common shares outstanding                       |       |                                                                              |        | 40,845,270                                           |       | 25,752,217 |   |

 

The accompanying notes are an integral part of theseconsolidated financial statements.

4

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**BPZ Energy, Inc. and Subsidiaries(An Exploratory Stage Company)**

# **Consolidated Statements ofStockholders’ Equity**

**Three Months Ended March 31, 2006(Unaudited)**
| ** **                                               | ** ** | **Common Stock Issued** | ** ** | **Additional  Paid-in** | ** ** | **Deferred  Stock-based** | ** ** | **Stock  Subscription** | ** ** | **Deficit  Accumulated  During the  Exploratory** | ** ** | ** ** | ** ** |
|----------------------------------------------------------|------------|-----------------------------------|------------|-------------------------|------------|---------------------------|------------|-------------------------|------------|--------------------------------------------------------|------------|------------|------------|
| ** **                                               | ** ** | **Shares**                        | ** ** | **Amount**              | ** ** | **Capital**               | ** ** | **Compensation**        | ** ** | **Receivable**                                         | ** ** | **Stage**  | ** ** | **Total** | ** ** |
|                                                     |       |                              |       |                    |       |                      |       |                    |       |                                                   |       |       |       |   |   |
| Balances at  December 31, 2005 (audited) (Restated) |       | 40,349,979                        |       | $                       | 56,873,641 |                      | $          | 6,393,411               |       | $                                                      | (3,992,172 | )          | $          | (230,825 | ) | $ | (22,312,478 | ) | $ | 36,731,577 |   |
|                                                     |       |                              |       |                    |       |                      |       |                    |       |                                                   |       |       |       |   |   |
| Stock-based  compensation                                |       | —                            |       | —                  |       | 75,000                    |       | —                  |       | —                                                 |       | —     |       | 75,000 |   |
| Exercise of  stock options                               |       | 235,912                           |       | 757,278                 |       | (757,278                  | )          | —                  |       | —                                                 |       | —     |       | — |   |
| Long-term  incentive compensation plan                   |       | —                            |       | —                  |       | —                    |       | 467,915                 |       | —                                                 |       | —     |       | 467,915 |   |
| Common stock  sold for cash, net of offering costs       |       | 1,670,000                         |       | 5,010,000               |       | —                    |       | —                  |       | —                                                 |       | —     |       | 5,010,000 |   |
| Common stock  issued for registration delay              |       | 196,624                           |       | 543,920                 |       | —                    |       | —                  |       | —                                                 |       | —     |       | 543,920 |   |
| Net loss for the  period                                 |       |                              |       |                    |       |                      |       |                    |       |                                                   |       | (3,238,666 | )          | (3,238,666 | ) |
|                                                     |       |                              |       |                    |       |                      |       |                    |       |                                                   |       |       |       |   |   |
| Balances at  March 31, 2006                         |       | 42,452,515                        |       | $                       | 63,184,839 |                      | $          | 5,711,133               |       | $                                                      | (3,524,257 | )          | $          | (230,825 | ) | $ | (25,551,144 | ) | $ | 39,589,746 |   |

 

The accompanying notes are an integral part of theseconsolidated financial statements.

5

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** **

**BPZ Energy, Inc. and Subsidiaries(An Exploratory Stage Company)**

**Consolidated Statements of Cash Flows**

**(Unaudited)**
| ** **                                                                   | ** ** | **Cumulative  Amounts from  August 20, 2001  (Inception) to** | ** **  | **Three Months Ended March 31,** | ** ** |
|------------------------------------------------------------------------------|------------|-----------------------------------------------------------------------------------|-------------|------------------------------------------------------|------------|
| ** **                                                                   | ** ** | **March 31, 2006**                                                      | ** **  | **2006**                                             | ** ** | **2005** | ** ** |
| ** **                                                                   | ** ** | ** **                                                                        | ** **  | ** **                                           | ** ** | **(Restated)** | ** ** |
| Cash flows from  operating activities:                                       |       |                                                                              |        |                                                 |       |   |   |
| Net loss                                                                     |       | $                                                                                 | (25,551,144 | )                                                    | $          | (3,238,666 | ) | $ | (1,112,849 | ) |
| Adjustments to  reconcile net loss to net cash used by operating activities: |       |                                                                              |        |                                                 |       |   |   |
| Stock-based  compensation                                                    |       | 8,984,475                                                                         |        | 542,915                                              |       | 75,000 |   |
| Stock issued in  merger                                                      |       | 979,981                                                                           |        | —                                               |       | — |   |
| Options assumed  in merger                                                   |       | 4,490,474                                                                         |        | —                                               |       | — |   |
| Stock issued for  registration delay expense                                 |       | 815,880                                                                           |        | 543,920                                              |       | — |   |
| Depreciation  expense                                                        |       | 66,963                                                                            |        | 37,168                                               |       | 650 |   |
| Amortization of  investment in Ecuador property                              |       | 226,208                                                                           |        | 46,896                                               |       | 21,380 |   |
| Amortization of  deferred financing fees                                     |       | 428,000                                                                           |        | —                                               |       | 28,955 |   |
| Expenses paid by  affiliate                                                  |       | 629,596                                                                           |        | —                                               |       | — |   |
| Changes in  operating assets and liabilities:                                |       |                                                                              |        |                                                 |       |   |   |
| Increase in  other assets                                                    |       | (1,648,116                                                                        | )           | (778,447                                             | )          | (11,036 | ) |
| Increase  (decrease) in accounts payable                                     |       | 419,250                                                                           |        | (328,097                                             | )          | (98,618 | ) |
| Increase in  accrued liabilities                                             |       | 553,568                                                                           |        | 82,936                                               |       | 149,194 |   |
| Increase in  other liabilities                                               |       | 72,710                                                                            |        | 2,194                                                |       | — |   |
| Net cash used by  operating activities                                       |       | (9,532,155                                                                        | )           | (3,089,181                                           | )          | (947,324 | ) |
|                                                                         |       |                                                                              |        |                                                 |       |   |   |
| Cash flows from  investing activities:                                       |       |                                                                              |        |                                                 |       |   |   |
| Property and  equipment additions                                            |       | (8,805,911                                                                        | )           | (4,411,076                                           | )          | (8,221 | ) |
| Restricted cash                                                              |       | (1,455,953                                                                        | )           | —                                               |       | (1,200,000 | ) |
| Investment in  Ecuador property                                              |       | (1,440,000                                                                        | )           | —                                               |       | — |   |
| Net cash used by  investing activities                                       |       | (11,701,864                                                                       | )           | (4,411,076                                           | )          | (1,208,221 | ) |
|                                                                         |       |                                                                              |        |                                                 |       |   |   |
| Cash flows from  financing activities:                                       |       |                                                                              |        |                                                 |       |   |   |
| Borrowings                                                                   |       | 2,226,826                                                                         |        | —                                               |       | — |   |
| Repayments of  borrowings                                                    |       | (452,368                                                                          | )           | (1,978                                               | )          | (87,345 | ) |
| Proceeds from  exercise of warrants, net                                     |       | 3,868,260                                                                         |        | —                                               |       | — |   |
| Proceeds from  sale of common stock, net                                     |       | 42,554,196                                                                        |        | 5,010,000                                            |       | — |   |
| Net cash  provided by (used by) financing activities                         |       | 48,196,914                                                                        |        | 5,008,022                                            |       | (87,345 | ) |
|                                                                         |       |                                                                              |        |                                                 |       |   |   |
| Net increase (decrease)  in cash and cash equivalents                        |       | 26,962,895                                                                        |        | (2,492,235                                           | )          | (2,242,890 | ) |
| Cash and cash  equivalents at beginning of period                            |       | —                                                                            |        | 29,455,130                                           |       | 4,014,191 |   |
| Cash and cash  equivalents at end of period                                  |       | $                                                                                 | 26,962,895  |                                                 | $          | 26,962,895 |   | $ | 1,771,301 |   |
|                                                                         |       |                                                                              |        |                                                 |       |   |   |
| Supplemental cash flow  information:                                         |       |                                                                              |        |                                                 |       |   |   |
| **Cash paid for:**                                                           |       |                                                                              |        |                                                 |       |   |   |
| Interest                                                                     |       | $                                                                                 | 79,156      |                                                 | $          | 1,452 |   | $ | 6,754 |   |
| **Non – cash items:**                                                   |       |                                                                              |        |                                                 |       |   |   |
| Common stock issued for  property interest                                   |       | $                                                                                 | 1,112,500   |                                                 | $          | — |   | $ | — |   |
| Warrants issued to  private placement agent                                  |       | 325,000                                                                           |        | —                                               |       | — |   |
| Imputed financing costs                                                      |       | 428,000                                                                           |        | —                                               |       | — |   |
| Issuance of common  stock for subscription receivable                        |       | 230,825                                                                           |        | —                                               |       | — |   |
| Conversion of long-term  debt to common stock                                |       | 685,000                                                                           |        | —                                               |       | — |   |
| Conversion of notes payable to common stock                                  |       | 1,020,529                                                                         |        |                                                 |       | — |   |

 

The accompanying notes are an integral part of theseconsolidated financial statements.

6

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**BPZ Energy, Inc. and Subsidiaries(An Exploratory Stage Company)**

**Notes To Consolidated Financial Statements**

**March 31, 2006 and 2005(Unaudited)**

**Note 1 - Basis ofPresentation and Significant Accounting Policies**

**Organization**

BPZ Energy, Inc., aColorado corporation (“BPZ” or the “Company”), was incorporated in 1993 and isbased in Houston, Texas. BPZ is an exploratory stage company with properties innorthwest Peru and southwest Ecuador and is focused on the exploration andproduction of oil and natural gas and the complementary development ofgas-fired power generation.

On September 10,2004, BPZ Energy, Inc., a Texas corporation (“BPZ-Texas”), consummated areverse merger with Navidec, Inc. (“Navidec”) whereby BPZ-Texas became awholly owned subsidiary of Navidec (the “Merger”).  However, in the Merger, the stockholder groupof BPZ-Texas obtained majority ownership and management control of the combinedcompany. The Merger was treated, for accounting purposes, as a capitaltransaction rather than a business combination. It is equivalent to the issuance of common stock by BPZ-Texas for thenet assets of Navidec, accompanied by a recapitalization.  This accounting treatment is identical tothat resulting from a reverse merger under SFAS No. 141, Business Combinations,except that no goodwill or other intangible asset has been recorded. Allfinancial statements presented herein represent the historical financialstatements of the accounting acquirer, BPZ-Texas.  Although the Company’s name has been changed,the pre-merger company may be referred to as Navidec in this filing to avoidconfusion.

The Merger required the transfer of all of thepre-merger business assets and liabilities of Navidec to its wholly ownedsubsidiary, Navidec Financial Services, Inc. (“NFS”), and the transfer ofownership of NFS to the shareholders of record of Navidec as of September 9,2004, the day prior to the consummation of the Merger. Accordingly, thepre-merger shareholders of BPZ-Texas were not entitled to receive shares ofNFS.  Upon consummation of the Merger,the Company became contractually and irrevocably bound to the spin-off of NFSto such pre-merger shareholders. All legal requirements for the transfer ofownership of NFS have been completed except for registration of the NFS shareswith the Securities and Exchange Commission (“SEC”). The Company has no controlover the registration process of NFS and cannot predict when, or if, themanagement of NFS will be able to complete the registration of NFS commonshares.  NFS’ results are excluded fromthe Company’s financial statements for all periods presented.

The Company maintains aregistered branch office in Peru. Currently, BPZ has exclusive rights and license agreements for oil andgas exploration and production covering a total of approximately 2.2 millionacres in northwest Peru.  The Company’slicense contracts cover 100% ownership of both Block Z-1 (739,205 acres), whichwas signed in November 2001 and Block XIX (472,860 acres), which wassigned in December 2003. The license contracts provide for an initialexploration period of seven to thirteen years and seven to ten years,respectively and require that we conduct specified activities on the propertiesduring this period.  If the explorationactivities are successful, the total contract term can extend up to 30 yearsfor oil exploration and production and 40 years for gas exploration andproduction.  BPZ is currently negotiatinga license contract for Block XXII (948,000 acres) which it previously heldunder a Technical Evaluation Agreement and was referred to as Area VI in itsprevious filings.

BPZ through its whollyowned subsidiary, SMC Ecuador Inc. (a Delaware corporation), and its registeredbranch in Ecuador, also owns a 10% non-operated working interest in an oil andgas producing property, Block 2, located in the southwest region of Ecuador(the “Santa Elena Property”).  Thelicense agreement covering the property extends through May 2016.

BPZ is currently in theexploratory stage and to date its activities in Peru have been limited toanalysis and evaluation of technical data on the properties and preparation ofthe development plans for the properties, including detailed engineering anddesign of the power plant and gas processing facilities, refurbishment of oneof its offshore platforms, procuring machinery and equipment for a drillingcampaign, obtaining all necessary environmental and operating permits, as wellas securing the required capital and financing to complete the current plan ofoperation. The Company has not drilled any wells or recognized any revenuesfrom operations and does not anticipate generating significant revenues fromits properties prior to the second half of 2007.

7

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**Basis of Presentation**

The Company’s unauditedconsolidated financial statements included herein have been prepared pursuantto the rules and regulations of the Securities and Exchange Commission asthey pertain to Form 10-Q. Accordingly, certain information and footnote disclosures normallyincluded in financial statements prepared in accordance with accountingprinciples generally accepted in the United States have been condensed oromitted pursuant to such rules and regulations.  The unaudited financial statements reflect alladjustments which are, in the opinion of management, necessary for a fairpresentation of the financial position and results of operations for theinterim periods on a basis consistent with the annual audited financialstatements.  Except for the restatement describedin Note 2 to the Consolidated Financial Statements, all such adjustments are ofa normal recurring nature. The Company believes that the disclosures containedherein are adequate to make the information presented not misleading.  The consolidated balance sheet atDecember 31, 2005 is derived from the December 31, 2005 auditedconsolidated financial statements, as restated. These interim financial statements should be read in conjunction withthe consolidated financial statements and notes thereto included in the Company’sAnnual Report on Form 10-KSB/A for the year ended December 31,2005.  The results of operations forinterim periods are not necessarily indicative of the results to be expectedfor the full year.

**NewAccounting Pronouncements**

The following are recent accounting pronouncementsaffecting the Company’s activities and operations:

In April 2005, theFinancial Accounting Standards Board (“FASB”) issued FASB Staff Position (“FSP”)19-1, “Accounting for Suspended Well Costs.” FSP 19-1 provides guidance on the accounting for exploratory well coststo companies which use the successful efforts method of accounting.  The FSP states that exploratory well costsshould continue to be capitalized if:  1)a sufficient quantity of reserves are discovered in the well to justify itscompletion as a producing well and 2) sufficient progress is made in assessingthe reserves and the well’s economic and operating feasibility.  If the exploratory well costs do not meetboth of these criteria, these costs should be expensed, net of any salvagevalue.  Additional annual disclosures arerequired to provide information about management’s evaluation of capitalizedexploratory well costs.  In addition, theFSP requires the annual disclosure of 1) net changes from period to period ofcapitalized exploratory well costs for wells that are pending the determinationof proved reserves, 2) the amount of exploratory well costs that have beencapitalized for a period greater than one year after the completion of drillingand 3) an aging of exploratory well costs suspended for greater than one yearwith the number of wells it relates to. Further, the disclosures should describe the activities undertaken toevaluate the reserves and the projects, the information still required toclassify the associated reserves as proved and the estimated timing forcompleting the evaluation.  The guidancein FSP 19-1 is required to be applied to the first reporting period beginningafter April 4, 2005 on a prospective basis to existing and newlycapitalized exploratory well costs.  Theguidance provided in FSP 19-1 may affect the treatment of costscapitalized in future operations, but it would not have had a material effecton amounts recorded in the consolidated financial position, results ofoperations or cash flow for the periods presented.

**AccountingPronouncements Adopted**

OnJanuary 1, 2006, the Company adopted Statement of Financial AccountingStandards (“SFAS”) No. 123 — Revised 2004,*Share—Based Payment* (“SFAS 123(R)”), which establishes accountingfor stock-based payment transactions for employee services and goods andservices received from non-employees. SFAS 123(R) is a revision of SFASNo. 123, *Accounting for Stock-BasedCompensation* (“SFAS 123”), and supersedes APB No. 25, *Accounting for Stock Issued to Employees*.Under the provisions of SFAS 123(R), stock-based compensation cost is measuredat the date of grant, based on the calculated fair value of the award, and isrecognized as expense over the employee’s or non-employee’s service period,which is generally the vesting period of the equity grant.

Prior to January 1, 2006, the Company accountedfor stock-based compensation in accordance with SFAS 123.  As allowed under SFAS 123, the Companyaccounted for its stock-based compensation to employees using the intrinsicvalue method of accounting which bases compensation expense on the differencebetween the quoted market price of the award at the measurement date less theamount, if any, the employee is required to pay for the stock.  As of January 1, 2006, stock-based awards toemployees consisted of only restricted shares valued using the market price ofthe Company’s traded common stock on the date of grant. The fair value methodused to value restricted shares would have yielded the same fair value andcompensation expense as the intrinsic value method used; thus, no pro formaresults of operations are required to be presented.

In addition, stock-based awards to non-employees as ofJanuary 1, 2006 consisted of options and restricted shares issued in exchangefor various legal and investment banking services.  Equity instruments issued to non-employeesfor

8

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serviceswere accounted for at fair value at the date of grant.  The fair value for awards issued tonon-employees was measured using a Black-Scholes valuation model.  Expenses determined for employees andnon-employees were recognized in the Company’s financial statements over theapplicable service period.

TheCompany adopted SFAS 123(R) using the modified prospective application methodand, accordingly, no prior periods have been restated as a result of theadoption of this pronouncement. Under this method, compensation cost recognizedduring the three months ended March 31, 2006 included compensationcost for all stock-based payments granted prior to, but not yet vested as ofJanuary 1, 2006, based on the grant-date fair value estimated inaccordance with the original provisions of SFAS 123. SFAS 123(R) requiresforfeitures to be estimated at the time of grant and revised, if necessary, insubsequent periods to reflect actual forfeitures.   The Company’s forfeiture estimates were notchanged as a result of adopting SFAS 123(R).

The following table summarizes stock-basedcompensation costs recognized under SFAS 123(R) for the three months endedMarch 31, 2006 and under SFAS 123 for three months ended March 31,2005:
|                                              | ** ** | **Three Months Ended** | ** ** |
|----------------------------------------------|------------|----------------------------------|------------|
| ** **                                   | ** ** | **March 31,**               | ** ** |
| ** **                                   | ** ** | **2006**                         | ** ** | **2005** | ** ** |
| Employee  stock-based compensation costs     |       | $                                | 467,915    |   | $ | — |   |
| Non-employee  stock-based compensation costs |       | 75,000                           |       | 75,000 |   |
|                                         |       | $                                | 542,915    |   | $ | 75,000 |   |

 

See Note 7 to theConsolidated Financial Statements, included in this filing, for detaileddiscussion regarding the Company’s employee long-term incentive compensationplan and stock-based payments to non-employees.

*Restricted Stock Awards and Performance Shares*

TheCompany determines the fair value of restricted stock awards and performanceshares based on the market price of the Company’s common stock on the date ofgrant. Compensation cost for such awards is recognized on a straight-line basisover the vesting or service period, net of forfeitures; however, compensationcost related to restricted stock that vests based on the achievement ofperformance criteria will not be recorded or will be reversed if the Companydoes not believe it is probable that such criteria will be met or if theservice provider (employee or otherwise) fails to meet such criteria.

Asummary of the Company’s restricted stock award and performance share activityand related information is presented below:
|                                              | ** ** | ** **         | ** ** | **Weighted**        | ** ** |
|----------------------------------------------|------------|--------------------|------------|---------------------|------------|
| ** **                                   | ** ** | **Number of** | ** ** | **Average**         | ** ** |
| ** **                                   | ** ** | **Restricted**     | ** ** | **Fair Value** | ** ** |
| ** **                                   | ** ** | **Shares**         | ** ** | **Per Share**  | ** ** |
| Nonvested  balance at December 31, 2005 |       | 1,130,000          |       | $                   | 4.40       |   |
| Granted                                      |       | —             |       | —              |       |
| Vested                                       |       | —             |       | —              |       |
| Forfeited                                    |       | —             |       | —              |       |
| Nonvested balance at  March 31, 2006    |       | 1,130,000          |       | $                   | 4.40       |   |

 

Asof March 31, 2006, there was $3.2 million of total unrecognizedcompensation cost related to nonvested restricted stock awards and performanceshares; however, the Company’s chief financial officer resigned on June 15,2006, thereby forfeiting 300,000 shares which represented approximately $1.0million of future compensation expense. The remaining $2.2 million of unrecognized compensation cost is expectedto be recognized over a weighted-average period of 1.7 years.   Restricted stock awards and performanceshares that the Company does not expect to vest were not considered in thenonvested share and unrecognized compensation amounts noted above.

*Stock Options*

Incentiveand non-qualified stock options issued to directors, officers and consultantsare issued at an exercise price equal to the fair market value of the stock atthe date of grant.  The majority of theCompany’s stock options vest two years

9

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from the grantdate and generally expire ten years from the date of grant.  Compensation cost related to stock options isrecognized on a straight-line basis over the vesting or service period and isnet of forfeitures.

 No options were granted by the Company duringthe three months ended March 31, 2006 or three months ended March 31, 2005.  Thefair values of past and future stock options granted are estimated on the dateof grant using a Black-Scholes option pricing model. The expected life of theoptions represents the period of time the options are expected to beoutstanding. The expected term of options granted is derived based on aweighting between (a) the Company’s historical exercise and forfeiture activityand (b) the average midpoint between vesting and the contractual term. In thefuture, as information regarding post-vesting termination becomes moreaccessible, the Company may change the method of deriving the expected term.This change could impact the fair value of options granted in the future. TheCompany expects to refine the method of deriving the expected term no laterthan January 1, 2008.  The Company’sexpected volatility is based on the historical volatility of its stock for aperiod approximating the expected life. The risk-free interest rate is based on the observed U.S. Treasury yieldcurve in effect at the time the options are granted. The dividend yield isbased on the Company’s history of dividend payouts.

As of March 31,2006, the Company’s unvested outstanding options consisted of options topurchase 500,000 shares of common stock at an exercise price of $1.30 pershare, which were granted to the former CEO of Navidec, John R. McKowen, inconnection with his service as a non-employee financial consultant to theCompany and were valued at a fair value of $1.20 per share using theBlack-Scholes model.  The original optionagreement between the Company and Mr. McKowen stipulated that vesting of thesestock options is contingent upon the receipt of additional investment proceedstotaling $6 million, including proceeds from the exercise of outstandingwarrants, provided such funding is received no later than September 10,2006; however, pursuant to a Settlement Agreement and Mutual Release enteredinto on May 19, 2006 between the Company, Mr. McKowen and NFS, the vestingperiod of such options was extended to one year following the date the NFSshares are registered with the SEC. These stock options, when vested, willexpire in September 2014. The extension of the vesting period did not result ina revaluation of these options, as the number of options that the Companyexpects to vest did not change as a result of the modification.  The unvested options are being amortized overthe original 24-month vesting period at the rate of $25,000 per month unlessthe Company concludes that such options are no longer probable of vesting.

No options were exercised during the six months endedMarch 31, 2006. As of March 31, 2006, there was $0.2 million of totalunrecognized compensation cost related to nonvested stock options which isexpected to be recognized over a weighted-average period of 0.5 years.

Thefollowing table summarizes information about stock options outstanding as ofMarch 31, 2006:
|                                             | ** ** | **Outstanding**    | ** ** | **Exercisable**     | ** ** |
|---------------------------------------------|------------|--------------------|------------|---------------------|------------|
| ** **                                  | ** ** | ** **         | ** ** | **Weighted-**       | ** ** | ** ** | ** ** | ** ** | ** ** |
| ** **                                  | ** ** | ** **         | ** ** | **Average**         | ** ** | ** ** | ** ** | ** ** | ** ** |
| ** **                                  | ** ** | ** **         | ** ** | **Remaining**       | ** ** | ** ** | ** ** | **Weighted-** | ** ** |
| ** **                                  | ** ** | ** **         | ** ** | **Contractual**     | ** ** | ** ** | ** ** | **Average** | ** ** |
| ** **                                  | ** ** | **Number of** | ** ** | **Life**            | ** ** | **Number of** | ** ** | **Exercise Price** | ** ** |
| **Range of Exercise Prices** | ** ** | **Options**        | ** ** | **(In years)** | ** ** | **Options** | ** ** | **Per Option** | ** ** |
| $ 1.30                                 |       |               | 1,000,000  |                | 8.5        |   | 500,000 |   | $ | 1.30 |   |
| 2.00                                        |       |               | 1,225,000  |                | 8.5        |   | 1,225,000 |   | 2.00 |   |
| Total                                       |       | 2,225,000          |       | 8.5                 |       | 1,725,000 |   | $ | 1.80 |   |

 

Theaggregate intrinsic value of stock options outstanding at March 31, 2006 was$3.8 million, of which $2.8 million relates to awards vested andexercisable and $1.0 million relates to awards expected to vest. Theintrinsic value for stock options outstanding is calculated as the amount bywhich the quoted price of the Company’s common stock as of March 31, 2006exceeds the exercise price of the option.

*Warrants*

As of March 31, 2006, the Company had 100,000 warrantsoutstanding, all of which were issued to Morgan Keegan & Company inconnection with a previous private placement of the Company’s common stock andvested immediately.  The warrants topurchase 100,000 shares of the Company’s common stock have an exercise price of$3.00 per share, expire on July 19, 2010 and were valued at $325,000 atthe date of grant.  No warrants wereissued or exercised during the three months ended March 31, 2006.

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**Note 2 – September 2006Restatement**

The previously issued consolidated financialstatements of the Company as of December 31, 2005 and for the three monthperiod ended March 31, 2005 have been restated for the issues described below:

·                  as to the mergerwith Navidec, Inc., the description of the accounting and the valuation ofcertain Navidec options assumed;

·                  the accountingfor the post-merger operations of Navidec Financial Services, Inc.; and

·                  the accounting for expenses incurredon the Company’s behalf by its former parent, BPZ & Associates, Inc. (“Associates”)prior to the merger with Navidec.

*The Navidec Merger*

The Company’s description of the transaction wasamended to clarify that the merger is considered, from an accountingperspective to be in substance, a capital transaction rather than a businesscombination.  On July 8, 2004, Navidec and BPZ-Texas entered into a MergerAgreement (the “Merger Agreement”) providing for the acquisition of BPZ-Texasby Navidec in a transaction intended to qualify as a tax free share exchange(the “Merger”).  The Merger wasconsummated on September 10, 2004. The Company changed its namefrom Navidec, Inc. to BPZ Energy, Inc. on February 4, 2005.  Although the Company’s name has been changed,the pre-merger company may be referred to as Navidec in this filing to avoidconfusion.

The Merger was structured from a legal standpoint asthe acquisition of BPZ-Texas by Navidec; however, the stockholder group ofBPZ-Texas obtained majority ownership and management control of the combinedcompany.  It was equivalent to theissuance of common stock by BPZ-Texas for the net assets of Navidec,accompanied by a recapitalization.  Theaccounting treatment is identical to that resulting from a reverse merger ofBPZ-Texas with Navidec under SFAS 141, except that no goodwill or otherintangible asset was recorded.

The Company’s historical financial statements prior tothe acquisition become those of BPZ-Texas (accounting acquirer). Operationsprior to the Merger are those of BPZ-Texas and earnings per share for periodsprior to the Merger are restated to reflect the number of equivalent sharesreceived by BPZ-Texas, with the historical stockholders’ equity of BPZ-Texasprior to the Merger being retroactively restated (a recapitalization) toreflect the equivalent number of shares received in the Merger by BPZ-Texas andthe capital structure (the number and type of shares issued) of Navidec (thelegal acquirer). Accordingly, all financial statements included herein orincorporated by reference reflect the acquisition by BPZ-Texas of the netassets of Navidec and the recapitalization of BPZ-Texas’ common stock based onthe exchange ratio provided in the Merger Agreement.

*NavidecOptions*

The Company also restated its consolidated financialstatements to reflect a change in the valuation of the options assumed by theCompany in the Merger with Navidec to purchase 1,332,076 shares of Navideccommon stock.  All shares underlying suchoptions are issuable as common stock of the Company.  The proceeds from the exercise of the assumedoptions must be remitted to NFS pursuant to the Merger Agreement.  As such, the Company believes that $0.00should be the exercise price input in the Black-Scholes Model used to valuethese instruments.  In its priorrestatement on Form 8-K/A filed January 17, 2006, the Company used the statedexercise price (weighted average) per the respective option agreements.  The fair value of these options wasdetermined to be $3.21 (compared to $1.48 in the Company’s prior restatement)based on the exercise price noted and the market price of the underlying commonstock on the date of grant, among other Black-Scholes inputs.

*Operationsof NFS*

The Company also restated its consolidated financialstatements to exclude the operations of NFS for all periods presented.  The Merger Agreement provided that all of thepre-merger business operations, assets and liabilities of Navidec would betransferred to a wholly-owned subsidiary, NFS, followed by the transfer ofownership of NFS to the pre-merger shareholders of record as ofSeptember 9, 2004, the day prior to the consummation of the Merger. The Company previously concluded in its 2004 Form 10-KSB/A filed on January 17,2006 that it was the record owner of NFS shares, but that any ownership was atmost temporary, and restated its consolidated financial statements to accountfor NFS on the equity method until such time as the final distribution of NFSshares to the pre-merger shareholders has been completed in all respects.  However, the Company subsequently learnedthrough discovery performed with respect to an action the Company filed againstNFS in District Court, Arapahoe County, Colorado (the “Court”) that new sharecertificates of NFS were issued in the

11

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namesof the shareholders of the pre-merger Navidec effective September 9, 2004 andno NFS certificates were ever issued to the Company.  In addition, a Findings of Fact andConclusions of Law (the “Order”) issued by the Court stated that the Companywas not a shareholder of NFS at any time after September 9, 2004.  Based on these findings, the Company hasconcluded that it should not account for the post-merger operations of NFS inthe Company’s consolidated financial statements.

*Allocation of Costs Incurred by Associates*

The Company also restatedits consolidated financial statements as a result of a change in themethodology used to allocate costs from Associates, its former parent.  The Company has identified costs that wereincurred by Associates in support of BPZ-Texas’ activities from BPZ-Texas’inception in August 2001 until the merger with Navidec on September 10, 2004.Specific costs incurred by Associates on behalf of BPZ-Texas have been includedin BPZ-Texas’ financial statements. Additionally, all of Associates’ costs onBPZ-Texas’ projects in excess of third party reimbursements have been includedin BPZ-Texas’ financial statements in an effort to reflect all the costs ofdoing business.  The Company believes itsallocation methodology is reasonable.

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Theeffects of the restatement and any reclassification on the December 31, 2005 unauditedconsolidated balance sheet were as follows:
| ** **                                                                                                          | ** ** | **December 31, 2005** | ** ** |
|---------------------------------------------------------------------------------------------------------------------|------------|---------------------------------|------------|
| ** **                                                                                                          | ** ** | **As Reported**            | ** ** | **Adjustment** | ** ** | **As Restated** | ** ** |
|                                                                                                                |       |                            |       |   |   |   |   |
| **ASSETS**                                                                                                          | ** ** | ** **                      | ** ** | ** ** | ** ** | ** ** | ** ** |
| Current assets:                                                                                                     |       |                            |       |   |   |   |   |
| Cash and cash  equivalents                                                                                          |       | $                               | 29,455,130 |   | $ | — |   | $ | 29,455,130 |   |
| Other                                                                                                               |       | 869,669                         |       | — |   | 869,669 |   |
| Total current  assets                                                                                               |       | 30,324,799                      |       | — |   | 30,324,799 |   |
|                                                                                                                |       |                            |       |   |   |   |   |
| Property, equipment and  construction in progress, net                                                              |       | 4,365,040                       |       | — |   | 4,365,040 |   |
| Restricted cash                                                                                                     |       | 1,455,953                       |       | — |   | 1,455,953 |   |
| Investment in Ecuador  property, net                                                                                |       | 1,945,188                       |       | — |   | 1,945,188 |   |
|                                                                                                                |       |                            |       |   |   |   |   |
| Total assets                                                                                                        |       | $                               | 38,090,980 |   | $ | — |   | $ | 38,090,980 |   |
|                                                                                                                |       |                            |       |   |   |   |   |
| **LIABILITIES  AND STOCKHOLDERS’ EQUITY**                                                                      | ** ** | ** **                      | ** ** | ** ** | ** ** | ** ** | ** ** |
| Current liabilities:                                                                                                |       |                            |       |   |   |   |   |
| Accounts payable                                                                                                    |       | $                               | 747,347    |   | $ | — |   | $ | 747,347 |   |
| Accrued  liabilities                                                                                                |       | 470,632                         |       | — |   | 470,632 |   |
| Other  liabilities                                                                                                  |       | 70,516                          |       | — |   | 70,516 |   |
| Total current  liabilities                                                                                          |       | 1,288,495                       |       | — |   | 1,288,495 |   |
|                                                                                                                |       |                            |       |   |   |   |   |
| Long-term debt                                                                                                      |       | 70,908                          |       | — |   | 70,908 |   |
|                                                                                                                |       |                            |       |   |   |   |   |
| Stockholders’ equity:                                                                                          |       |                            |       |   |   |   |   |
| Preferred stock,  no par value, 25,000,000 authorized, none issued and outstanding                                  |       | —                          |       | — |   | — |   |
| Common stock, no  par value, 250,000,000 authorized; 40,349,979 shares issued and outstanding  at December 31, 2005 |       | 60,633,684                      |       | (3,760,043 | ) | 56,873,641 |   |
| Additional paid  in capital                                                                                         |       | 2,362,283                       |       | 4,031,128 |   | 6,393,411 |   |
| Deferred  stock-based compensation                                                                                  |       | (3,992,172                      | )          | — |   | (3,992,172 | ) |
| Common stock and  warrants held by affiliate                                                                        |       | (2,458,975                      | )          | 2,458,975 |   | — |   |
| Stock  subscription receivable                                                                                      |       | (230,825                        | )          | — |   | (230,825 | ) |
| Deficit  accumulated during the exploratory stage                                                                   |       | (19,582,418                     | )          | (2,730,060 | ) | (22,312,478 | ) |
|                                                                                                                |       |                            |       |   |   |   |   |
| Total  stockholders’ equity                                                                                    |       | 36,731,577                      |       | — |   | 36,731,577 |   |
|                                                                                                                |       |                            |       |   |   |   |   |
| Total liabilities and  stockholders’ equity                                                                    |       | $                               | 38,090,980 |   | $ | — |   | $ | 38,090,980 |   |

 

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Theeffects of the restatement and any reclassification on the unauditedconsolidated statement of operations for the three months ended March 31, 2005 wereas follows:
| ** **                                                       | ** ** | **Three Months Ended March 31, 2005** | ** ** |
|------------------------------------------------------------------|------------|----------------------------------------------------------------|------------|
| ** **                                                       | ** ** | **As Reported**                                           | ** ** | **Adjustment** | ** ** | **As Restated** | ** ** |
|                                                             |       |                                                           |       |   |   |   |   |
| Revenue                                                          |       | $                                                              | —     |   | $ | — |   | $ | — |   |
|                                                             |       |                                                           |       |   |   |   |   |
| Operating and  administrative expenses:                          |       |                                                           |       |   |   |   |   |
| General and administrative                                       |       | 960,789                                                        |       | — |   | 960,789 |   |
| Stock-based compensation                                         |       | 75,000                                                         |       | — |   | 75,000 |   |
| Geological, geophysical and engineering                          |       | 138,065                                                        |       | — |   | 138,065 |   |
| Depreciation expense                                             |       | 650                                                            |       | — |   | 650 |   |
|                                                             |       |                                                           |       |   |   |   |   |
| Total operating expenses                                         |       | 1,174,504                                                      |       | — |   | 1,174,504 |   |
|                                                             |       |                                                           |       |   |   |   |   |
| Operating loss                                                   |       | (1,174,504                                                     | )          | — |   | (1,174,504 | ) |
|                                                             |       |                                                           |       |   |   |   |   |
| Other income  (expense):                                         |       |                                                           |       |   |   |   |   |
| Income from investment in Ecuador property, net of  amortization |       | 87,794                                                         |       | — |   | 87,794 |   |
| Equity in loss of NFS                                            |       | (299,206                                                       | )          | 299,206 |   | — |   |
| Loss on issuance of equity securities by NFS                     |       | (274,298                                                       | )          | 274,298 |   | — |   |
| Interest expense                                                 |       | (5,662                                                         | )          | — |   | (5,662 | ) |
| Amortization of deferred financing costs                         |       | (28,955                                                        | )          | — |   | (28,955 | ) |
| Miscellaneous income                                             |       | 8,478                                                          |       | — |   | 8,478 |   |
|                                                             |       |                                                           |       |   |   |   |   |
| Total other income (expense)                                     |       | (511,849                                                       | )          | 573,504 |   | 61,655 |   |
|                                                             |       |                                                           |       |   |   |   |   |
| Loss before  income taxes                                        |       | (1,686,353                                                     | )          | 573,504 |   | (1,112,849 | ) |
|                                                             |       |                                                           |       |   |   |   |   |
| Income taxes                                                     |       | —                                                         |       | — |   | — |   |
|                                                             |       |                                                           |       |   |   |   |   |
| Net loss                                                         |       | $                                                              | (1,686,353 | ) | $ | 573,504 |   | $ | (1,112,849 | ) |
|                                                             |       |                                                           |       |   |   |   |   |
| Basic and  diluted net loss per share                            |       | $                                                              | (0.10      | ) | $ | 0.06 |   | $ | (0.04 | ) |
|                                                             |       |                                                           |       |   |   |   |   |
| Weighted average common  shares outstanding                      |       | 16,303,463                                                     |       | 9,448,754 |   | 25,752,217 |   |

 

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Theeffects of the restatement and any reclassification on the consolidatedstatement of cash flows for the three months ended March 31, 2005 were as follows:
| ** **                                                                   | ** ** | **For Three Months Ended March 31, 2005** | ** ** |
|------------------------------------------------------------------------------|------------|-------------------------------------------------------------------------|------------|
| ** **                                                                   | ** ** | **As Reported**                                                    | ** ** | **Adjustment** | ** ** | **As Restated** | ** ** |
| ** **                                                                   | ** ** | ** **                                                              | ** ** | ** ** | ** ** | ** ** | ** ** |
| Cash flows from  operating activities:                                       |       |                                                                    |       |   |   |   |   |
| Net loss                                                                     |       | $                                                                       | (1,686,353 | ) | $ | 573,504 |   | $ | (1,112,849 | ) |
| Adjustments to  reconcile net loss to net cash used by operating activities: |       |                                                                    |       |   |   |   |   |
| Stock-based  compensation                                                    |       | 75,000                                                                  |       | — |   | 75,000 |   |
| Depreciation  expense                                                        |       | 650                                                                     |       | — |   | 650 |   |
| Amortization of  investment in Ecuador property                              |       | 21,380                                                                  |       | — |   | 21,380 |   |
| Amortization of  deferred financing fees                                     |       | 28,955                                                                  |       | — |   | 28,955 |   |
| Equity in loss  of Navidec Financial Services                                |       | 299,206                                                                 |       | (299,206 | ) | — |   |
| Loss on issuance  of equity securities by Navidec Financial Services         |       | 274,298                                                                 |       | (274,298 | ) | — |   |
| Changes in  operating assets and liabilities:                                |       |                                                                    |       |   |   |   |   |
| Increase in  other assets                                                    |       | (11,036                                                                 | )          | — |   | (11,036 | ) |
| Decrease in  accounts payable                                                |       | (98,618                                                                 | )          | — |   | (98,618 | ) |
| Increase in  accrued liabilities                                             |       | 149,194                                                                 |       | — |   | 149,194 |   |
| Net cash used by  operating activities                                       |       | (947,324                                                                | )          | — |   | (947,324 | ) |
|                                                                         |       |                                                                    |       |   |   |   |   |
| Cash flows from  investing activities:                                       |       |                                                                    |       |   |   |   |   |
| Property and  equipment additions                                            |       | (8,221                                                                  | )          | — |   | (8,221 | ) |
| Restricted cash                                                              |       | (1,200,000                                                              | )          | — |   | (1,200,000 | ) |
| Net cash used by  investing activities                                       |       | (1,208,221                                                              | )          | — |   | (1,208,221 | ) |
|                                                                         |       |                                                                    |       |   |   |   |   |
| Cash flows from  financing activities:                                       |       |                                                                    |       |   |   |   |   |
| Repayments of  borrowings                                                    |       | (87,345                                                                 | )          | — |   | (87,345 | ) |
| Net cash used by  financing activities                                       |       | (87,345                                                                 | )          | — |   | (87,345 | ) |
|                                                                         |       |                                                                    |       |   |   |   |   |
| Net decrease in  cash and cash equivalents                                   |       | (2,242,890                                                              | )          | — |   | (2,242,890 | ) |
| Cash and cash  equivalents at beginning of period                            |       | 4,014,191                                                               |       | — |   | 4,014,191 |   |
| Cash and cash  equivalents at end of period                                  |       | $                                                                       | 1,771,301  |   | $ | — |   | $ | 1,771,301 |   |

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**Note 3 — Other Current Assets**

Belowis a summary of other current assets as of March 31, 2006 and December 31,2005:
| ** **                  | ** ** | **March 31, 2006** | ** ** | **December 31, 2005** | ** ** |
|-----------------------------|------------|------------------------------|------------|---------------------------------|------------|
|                        |       |                         |       |                            |       |
| Value added tax  receivable |       | $                            | 1,123,811  |                            | $          | 362,555 |   |
| Prepaid expenses and other  |       | 171,302                      |       | 270,903                         |       |
| Deposits                    |       | 300,696                      |       | 181,347                         |       |
| Interest  receivable        |       | 52,307                       |       | 54,864                          |       |
| Other current  assets       |       | $                            | 1,648,116  |                            | $          | 869,669 |   |

 

Asof March 31, 2006 other current assets consisted primarily of value-added taxpaid in Peru.  Value-added tax (referred to as “IGV” in Peru) is generallyimposed on goods and services at a rate of 19%. Peru currently has an earlyrecovery system for exploration companies. Under this regime, IGV paid on theacquisition of goods and services used directly in hydrocarbon explorationactivities can be recovered without having to wait until a commercial discoverytakes place or production begins. The Company has applied for early recovery ofIGV paid as it does not anticipate first sales of power to the Peruvian powermarket until 2007.   The first installment of the early recovery ofthe IGV balance is expected to be received during the fourth quarter of 2006.

**Note 4 — Property, Equipment and Construction inProgress**

Below is a summary of property, equipment and construction in progress as of March 31, 2006 and December 31, 2005:
| ** **                                              | ** ** | **March 31, 2006** | ** ** | **December 31, 2005** | ** ** |
|---------------------------------------------------------|------------|------------------------------|------------|---------------------------------|------------|
|                                                    |       |                         |       |                            |       |
| Construction in  progress:                              |       |                         |       |                            |       |
| Power plant and related equipment                       |       | $                            | 2,329,144  |                            | $          | 2,252,413 |   |
| Platforms and wells                                     |       | 4,993,088                    |       | 1,190,707                       |       |
| Pipelines and processing facilities                     |       | 774,113                      |       | 512,357                         |       |
| Office  equipment, leasehold improvements, and vehicles |       | 709,566                      |       | 439,359                         |       |
| Accumulated  depreciation and amortization              |       | (66,963                      | )          | (29,796                         | )          |
| Net property,  equipment and construction in process    |       | $                            | 8,738,948  |                            | $          | 4,365,040 |   |

 

As of March 31, 2006 the Company incurred costsassociated with exploration and production of natural gas reserves and with thecomplementary development of gas-fired power generation for its own use inPeru. The costs relate to the initial engineering design work for the powerplant, gas processing facility and pipelines, modernization and refurbishmentcosts of the platform tender assist drilling rig, and acquiring andrefurbishing one of the Company’s offshore platforms located in Block Z-1. TheCompany also incurred costs for office equipment and leasehold improvements forits offices in Houston, Peru and Ecuador and for vehicles used in the Peruvianoperations.

**Note 5 — Restricted Cash and Performance Bonds**

Inconnection with its properties in Peru, the Company has obtained twoperformance bonds totaling $1,650,000 to guarantee its obligations andcommitments.  As of March 31, 2006,BPZ had restricted cash deposits of $1,455,953 ($5,953 represents interestearned), which collateralizes the performance bonds.  In addition to the cash collateral posted byBPZ, an individual shareholder of the Company provided a guarantee in theamount of $200,000 to the financial institution which issued such bond to securethe Company’s performance.  Both performancebonds were issued by Peruvian banks and their terms are governed by thecorresponding license contract or technical evaluation agreement.

**Note 6 — Investment in EcuadorProperty**

The Company has an investment in an oil and gas property inEcuador (the “Santa Elena Property”) totaling $1,898,292 and $1,945,188 as ofMarch 31, 2006 and December 31, 2005, respectively.  The Company accounts for this investmentunder the cost method and records its share of cash received or paid as otherincome or expense.  Since the Company’sinvestment represents ownership of an oil and gas property, which is adepleting asset, the Company is amortizing the cost of the investment on astraight-line basis over the remaining term of the license agreement whichexpires in May 2016.  Accordingly,the Company recorded amortization expense of $46,896 and $21,380 for the threemonths ended March 31, 2006 and March 31, 2005, respectively.

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**Note 7 — Stockholders’ Equity**

The Company has25,000,000 shares of preferred stock, no par value and 250,000,000 shares ofcommon stock, no par value, authorized for issuance.

**Private Placement of Common Stock**

On March 10, 2006 the Company completed a private placement of 1,670,000 shares of common stock, no par value, to four institutional and accredited investors pursuant to a Stock Purchase Agreement. The common stock was priced at $3.00 per share resulting in proceeds to the Company of $5,010,000.  In connection with the private placement, the Company was obligated to prepare and file with the SEC a Registration Statement on Form S-1 within sixty days, and to use its best efforts to cause the Registration Statement to be declared effective by the SEC no later than ninety days, from March 8, 2006. If the Registration Statement is not filed, or declared effective, by the required dates the Company becomes liable to the investors for liquidated damages in an amount equal to 1.0% of the purchase price of the shares, approximately $50,100, for each thirty day period until the Registration Statement is declared effective by the SEC.  These liquidated damages are payable, at the sole discretion of the Company, by cash or by the issuance of Company common stock.

On July 19, 2005, the Company completed a private placement of 11,466,000 shares of common stock, no par value, pursuant to a Stock Purchase Agreement.  The common stock was priced at $3.00 per share, resulting in net proceeds to the Company of $31,917,214.  In connection with the private placement, the Company was obligated to prepare and file with the SEC a Registration Statement on Form S-1 and to use its best efforts to cause the Registration Statement to be declared effective by the SEC no later than ninety days from July 19, 2005. The Registration Statement was not declared effective by the required date and the Company became liable to the investors for liquidated damages in an amount equal to 1.0% of the purchase price of the shares, approximately $343,980, for each thirty day period until the Registration Statement is declared effective by the SEC. Certain of the private placement investors, totaling 79% of the aggregate investment, have agreed to accept common stock in lieu of cash for a maximum period of 90 days.  As such, 196,624 shares of common stock were issued during the three months ended March 31, 2006 to those certain investors for liquidated damages.

**Stock Subscription Receivable**

During 2004, the Company issued 236,528 shares to an individual investor for $119,175 of cash proceeds and a subscription receivable of $230,825.  The investor has pledged assets to a Peruvian bank which secure one of the Company’s performance bonds.  The subscription receivable is due at such time as the Company obtains its own performance bond to replace the one posted by the investor or until the performance bond is no longer required.

**Potentially Dilutive Securities**

In addition to the shares issued and outstanding, the Company has the following potentially dilutive securities.  None of these potentially dilutive shares have been included in the calculation of earnings per share as the effect would be anti-dilutive.
|                                                                               | ** ** | **March 31,** | ** ** | **December 31,** | ** ** |
|-------------------------------------------------------------------------------|------------|--------------------|------------|-----------------------|------------|
| ** **                                                                    | ** ** | **2006**           | ** ** | **2005**              | ** ** |
| Stock options  outstanding                                                    |       | 2,603,652          |       | 2,878,652             |       |
| Warrants  outstanding                                                         |       | 100,000            |       | 100,000               |       |
| Shares issuable  to consultant for services                                   |       | 10,000             |       | 10,000                |       |
| Contingent  incentive earn-out shares                                         |       | 485,000            |       | 485,000               |       |
| Contingent  Merger earn-out shares                                            |       | 9,000,000          |       | 9,000,000             |       |
| Total potentially dilutive securities                                         |       | 12,198,652         |       | 12,473,652            |       |
|                                                                          |       |               |       |                  |       |
| Shares available for  grant pursuant to Long-Term Incentive Compensation Plan |       | 2,880,000          |       | 2,880,000             |       |

 

**Stock Options Outstanding**

In connection with theMerger, BPZ, as the accounting acquirer, assumed all Navidec stock options outstanding, which were fully vested on thedate of the Merger and expire on September 10, 2007.  Exerciseprices on these stock options range from $1.30 to $1.93 per share.  Under the terms of the Merger agreement, NFSis entitled to receive all proceeds from the exercise of these options.  As of December 31, 2005, there were653,652 Navidec stock options outstanding. During the three month period ended March 31, 2006, 275,000 of theNavidec stock options were exercised and 378,652 stock options remain outstanding.

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In connection with the Merger, BPZ also issued optionsto purchase 1,500,000 shares of common stock at an exercise price of $2.00 pershare to NFS. Such options expire on July 31, 2006. Subsequent to theMerger, NFS conveyed 540,000 of such options to third parties. During 2005,275,000 options had been exercised, resulting in net proceeds to the Company of$550,000. As of March 31, 2006 there were 1,225,000 of such optionsoutstanding, of which 810,000 were held by NFS.

Additionally, the Companygranted options to purchase 1,000,000 shares of common stock at an exerciseprice of $1.30 per share to the former CEO of Navidec in connection with hisservice as a director and financial consultant to the Company.  Of such stock options, 500,000 were fully vested on the date of theMerger.  Vesting of the remaining 500,000stock options is contingent upon the receipt of additional investment proceedstotaling $6 million, including proceeds from the exercise of outstandingwarrants, provided such funding is received no later than September 10, 2006.These stock options, when vested, will expire 10 years from the date of grant.They were recorded at a fair value of $1.20 per share using the Black-Scholesmodel. The unvested options are being amortized over the 24-month vestingperiod at the rate of $25,000 per month unless the Company concludes that suchoptions are no longer probable of vesting.

Allof the above stock options were recorded at fair market value on the date ofthe Merger.  Accordingly, no disclosureof pro forma results of operations under SFAS 123(R) is required.

**Warrants Outstanding**

 In connection with the private placement of11,466,000 shares of common stock, Morgan Keegan & Company, Inc.also received warrants to purchase 100,000 shares of the Company’s common stockat an exercise price of $3.00 per share. Such warrants expire on July 19,2010. These warrants were valued at $325,000 using the Black-Scholes model,which amount was treated as additional non-cash stock offering costs.

**Shares Issued and Issuable forServices**

The Company has a contingent obligation to issue10,000 shares on May 21, 2006, pursuant to a service agreement, to a consultantfor legal and business advisory services to be rendered in Peru.

**Contingent Incentive Earn-Out Shares**

During 2005, the Company’s Board of Directors awardeda total of 485,000 shares of incentive stock awards to three of the Company’sofficers. The incentive stock awards vest and the earn-out shares are issuableonce the Company is entitled to receive as its proportionate share from grossproduction from any oil and gas wells owned or operated by the Company not lessthan 2,000 barrels of oil per day or its equivalent (approximately 12 millioncubic feet of gas per day) prior to December 28, 2007, the same target asthe Merger earn-out shares (see below). The total future stock-basedcompensation expense associated with these contingent incentive stock awards is$2,134,000 of which $220,759 and $441,517 correspond to the three months endingMarch 31, 2006 and twelve months ending December 31, 2005, respectively. As theCompany has not yet obtained a firm financing commitment for its gas-to-powerproject, the Company does not consider the achievement of this target to beprobable for accounting purposes and is not currently accruing the associatedstock-based compensation expense.

**Merger Earn-Out Shares**

Under the terms of the Merger Agreement, the Companyis committed to issue 18,000,000 shares to the former shareholders of BPZ-Texason a contingent earn-out basis if the Company achieves certain reserve andproduction goals. The first earn-out target relating to reserves was achievedin December 2004 and 9,000,000 of the earn-out shares were issuable atthat time. However, the contingent earn-out shares could only be issued afterthe shareholders approved an increase in the number of authorized common sharesof the Company. The shareholders approved an increase in the number ofauthorized shares from 20,000,000 to 250,000,000 at its 2005 Annual Meetingheld on July 1, 2005 and the 9,000,000 shares were issued at that time.The remaining 9,000,000 earn-out shares are issuable once the Company isentitled to receive as its proportionate share from gross production from anyoil and gas wells owned or operated by the Company not less than 2,000 barrelsof oil per day or its equivalent (approximately 12 million cubic feet of gasper day) prior to December 28, 2007.

For accounting purposes, the earn-out arrangement istreated as a stock dividend because the earn-out is payable to the shareholdersof the accounting acquirer, BPZ-Texas. Accordingly, except for a retroactiveincrease in the number of common shares outstanding for all periods presented,no accounting entry is required upon the issuance of the earn-out shares.

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**Long-Term Incentive Compensation Plan**

The BPZ Energy, Inc. 2005 Long-Term IncentiveCompensation Plan (the “LTIP” or “Plan”) permits the Board of Directors toaward eligible employees, directors and consultants with incentive-based andnon-incentive-based compensation. The maximum number of shares of stock of theCompany that may be subject to incentives under the Plan, including withoutlimitation incentive options, is 4,000,000 shares, and such shares shall bereserved at all times until issued under the Plan. Of such amount, no more than1,600,000 shares in the aggregate shall be eligible for the issuance ofperformance shares, stock grants, restricted stock grants and other stock-basedincentives. The LTIP will be administered and managed within the discretion ofcompensation committee of the Company or, in the absence of such committee, bythe Board of Directors. Incentives under the LTIP may be granted to eligibleemployees, directors or consultants in any one or a combination of incentiveoptions, non-statutory stock options, stock appreciation rights, restrictedstock grants, stock grants and performance shares.  As of March 31, 2006 there were 2,880,000shares available to be granted by the Company under the LTIP.

**Note 8 — Commitments and Contingencies**

*Transferof NFS*

On September 9, 2004 theday prior to the effective date of the Merger, Navidec assigned all of itspre-merger business operations, assets and liabilities to NFS and all issuedand outstanding shares of NFS were subsequently transferred to the Navidecpre-merger shareholders of record as of September 9, 2004, for no cashconsideration.

The transfer of NFSshares was effected by NFS to the pre-merger Navidec shareholders of record asof September 9, 2004. Consistent with the terms of the Merger Agreement, theCompany had no control in the actions resulting in the transfer of the NFSshares and the Company believed, based on information provided by NFS and itsadvisors, that NFS had undertaken the necessary actions to comply withapplicable registration requirements. However, because a registration of theNFS shares was not effective at the time of the transfer of the NFS shares, andhas still not become effective, it might be determined that the transfer of theNFS shares was made without full compliance with registration or qualificationrequirements under applicable securities laws. As a result, although theCompany took no actions in connection with the transfer, because the Company isa successor by merger to Navidec, Inc., if regulatory authorities determinethat the Company did not comply with applicable registration requirements inconnection with the transfers, fines or other sanctions could be imposed on theCompany with respect to the transaction.

While federal and stateregulators might conclude that the Company was subject to responsibility forregistration of the shares, the Company regards the possibility of liabilityarising from the distribution of the NFS shares as remote for the followingreasons:

The Company took noaction with respect to the transfer of NFS shares which, pursuant to the termsof the Merger Agreement, was agreed to be handled by NFS, including anynecessary qualifications or registrations under applicable securities laws.Further, the Company believed, based on information provided by NFS and itsadvisors, that NFS had undertaken to comply with all applicable registrationrequirements. Additionally, the transfer, which was tantamount to a stockdividend to the pre-merger shareholders of Navidec, Inc., did not involve cashconsideration, making a finding of any damage to shareholders unlikely.Finally, it is the Company’s understanding that NFS is taking action toregister the NFS shares and is communicating with the SEC to address this issueto the SEC’s satisfaction.

Although the Companyregards the possibility of liability resulting from the transfer of NFS asremote, the Company does recognize that there may be a risk of such liability,and therefore cautions current and prospective Company shareholders of suchrisk.

*PeruProperties*

The Company has various obligations and commitments inconnection with its properties in Peru. In connection with its Block Z-1property, the Company posted a $1,300,000 performance bond in January 2005.To satisfy its current performance obligation under the second explorationphase of the Block Z-1 license agreement, the Company must drill at least onewell or acquire a specified amount of seismic data prior to July 2007. TheCompany intends to satisfy its obligation by drilling a well which is currentlybudgeted to cost approximately $6,000,000. In addition, in connection with itsBlock XIX property, the Company posted a $350,000 performance bond inAugust 2005. To satisfy its current performance obligation under thesecond exploration phase of the Block XIX license agreement which began inAugust 2005 and will last

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for 24months, the Company must acquire and process a specified amount of 2-D seismicdata and prepare an integrated geological, geochemical and reservoirengineering evaluation of hydrocarbon prospects.

The Company acquired four offshore platforms inconnection with its Block Z-1 property. The Company is currently in the processof refurbishing one of the offshore platforms and intends to maintain all ofsuch platforms for use throughout the life of the Block Z-1 contract. Theseplatforms revert back to the Government of Peru at the end of the contract,provided they are in good working condition, with no further obligation to thecompany to dismantle or remove them. The Company and its legal advisors havereviewed Peruvian law and existing regulations from the Peruvian Ministry ofEnergy and Mines in conjunction with the requirements of SFAS 143 “Accountingfor Asset Retirement Obligations” (“ARO”) as it applies to tangible long livedassets and their future retirement and dismantlement. The Company has concludedthat there is no legal obligation to dismantle the platforms, as defined inSFAS 143, and therefore recognition of an ARO is not required. Accordingly, nosuch provision is reflected in the accompanying consolidated financialstatements. If, however, current laws or regulations were changed or theplatforms were no longer in good working order, the Company could be obligatedto dismantle and remove them. The current estimated cost to dismantle anoffshore platform is estimated to be approximately $2 million, depending uponthe condition of the platform and the depth of the water.

In December 2005, the Company signed a drillingcontract with Petrex S.A., a subsidiary of Saipem SpA of Italy. Under thecontract, Petrex S.A. will provide a platform rig capable of drilling to 16,000feet and upgrade the rig to meet the Company’s specifications. The Companyintends to utilize the rig for the initial development of the Corvina gas fieldand may also utilize it for the expected development of the Albacora oil field,and potential appraisal wells in the Piedra Redonda gas field. The Company hasagreed to pay a $5.5 million fee to mobilize and upgrade the rig. In exchange,the Company will receive a competitive fixed day rate and exclusive rights touse the rig, at its option, during the two-year period commencing with deliveryof the rig.

In December 2005, the Company notified Perupetrothat it has exercised its exclusive option to convert the current TechnicalEvaluation Agreement (“TEA”) in Area VI, which covers 1,443,561 acres andencompasses the entire Lancones Basin, to a License Contract for theexploration and development of hydrocarbons. The Company is currently negotiating the exploration and productionlicense contract

*FinancingActivities*

On May 27, 2005, BPZ signed a Mandate Letter withthe International Finance Corporation (“IFC”), a member of the World Bank Groupbased in Washington, D.C., to facilitate the financing of the Company’s initialcapital expenditure program in Block Z-1 in northwest Peru. On November 1,2005, an amendment was signed extending the original term of the Mandate Letterfrom December 31, 2005 to August 31, 2006. On August 29, 2006, anamendment was signed to further extend the term of the Mandate Letter fromAugust 31, 2006 to November 30, 2006. The Mandate Letter specifies thatIFC will appraise BPZ’s project in Peru to determine the feasibility and structureof a potential financing transaction. Any IFC investment will depend on theproject and the Company meeting IFC’s financing criteria, the overall financingplan being acceptable to IFC, approval of the investment by management and theBoard of IFC, and the execution of all appropriate documentation, in form andsubstance satisfactory to IFC. As part of the Mandate, BPZ agreed to pay totalfees of $285,000 during the appraisal period and customary expenses. As ofMarch 31, 2006, $85,000 of fees and approximately $62,682 of reimbursableout-of-pocket expenses had been incurred.

In connection with theJuly 2005 private placement of 11,466,000 common shares, the Company wasobligated to prepare and file with the SEC a Registration Statement onForm S-1 and to use its best efforts to cause the Registration Statementto be declared effective by the SEC no later than ninety days fromJuly 19, 2005. The Registration Statement was not declared effective bythe required date and the Company became liable to the investors for liquidateddamages in an amount equal to 1.0% of the purchase price of the shares,approximately $343,980, for each thirty day period until the RegistrationStatement is declared effective by the SEC. Certain of the private placementinvestors, totaling 79% of the aggregate investment, have agreed to acceptcommon stock in lieu of cash for a maximum period of 90 days. The 90-day periodended on February 14, 2006 and the Company began paying the full amount ofliquidated damages in cash.  As of March31, 2006, the Company’s Registration Statement on Form S-1 had not beendeclared effective by the SEC and Company continues to be liable to theinvestors for the aforementioned liquidated damages.

Inconnection with the March 10, 2006 private placement of 1,670,000 commonshares, the Company was obligated to prepare and file with the SEC aRegistration Statement on Form S-1 within sixty days, and to use its bestefforts to cause the Registration Statement to be declared effective by the SECno later than ninety days, from March 8, 2006. If the Registration Statement isnot filed, or declared effective by May 9, 2006, the Company will beliable to the investors for liquidated damages in an amount equal to 1.0% ofthe purchase price of the shares, approximately $50,100, for each thirty dayperiod until the Registration Statement is declared effective by the SEC. Such liquidated damages arepayable in

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common stock or cash at the Company’s sole discretion.  As of the date of this filing, theRegistration Statement has not been declared effective by the SEC and theCompany continues to be liable to the investors for the aforementionedliquidated damages.

The Company will continue to make commitments in theordinary course of business as it pursues its development plans for theproperties.

**Note 9 — Legal Proceedings**

*SECInquiry of Navidec*

Navidec, Inc. was advised in a letter datedFebruary 24, 2004 that the SEC was conducting an informal inquiry todetermine whether Navidec, Inc. had violated federal securities laws. TheSEC made an informal request that Navidec voluntarily produce certaindocuments, which were provided to the SEC in May 2004. Based on theinquiries made and the information requested, the Company believes that the SEC’sinvestigation relates, at least in part, to the restatement of reportedearnings for the first and second quarters of 2003 by Navidec, Inc. Thisrestatement was reported in Navidec, Inc.’s Form 10-Q for the thirdquarter of 2003 filed on December 11, 2003.

In December 2004, the Company received notice that theSEC had issued an Order Directing a Private Investigation and DesignatingOfficers to Take Testimony, and would be conducting a formal investigation. BPZis cooperating fully with the SEC in this matter. As of December 31, 2005, atotal of approximately $50,000, primarily in legal fees, had been incurred inconnection with the SEC investigation. Pursuant to the Merger Agreement, theCompany has been indemnified by NFS for the costs of the SEC investigation andNFS has borne the costs incurred to date. BPZ is not aware of the futureactions, if any, which the SEC intends to pursue in this matter, but noassurance can be given that the investigation will be resolved without negativeconsequences to the Company.

*Transferof Ownership in NFS*

On July 8, 2004, Navidecand BPZ-Texas entered into a Merger Agreement which was consummated onSeptember 10, 2004. The Merger Agreement provided that all of the pre-mergerbusiness operations, assets and liabilities of Navidec would be transferred toa wholly-owned subsidiary, Navidec Financial Services, Inc. followed by thetransfer of NFS to the pre-merger shareholders of record as of September 9,2004, the day prior to the consummation of the Merger. See Note 2 to theConsolidated Financial Statements, included in this filing, for detaileddiscussion regarding the Merger.

The Merger Agreementprovided that the transfer of all of the pre-merger business operations, assetsand liabilities of NFS was effective as of September 9, 2004. Accordingly, theCompany originally believed that it had no continuing ownership of NFS and,therefore, did not account for the post-merger operations of NFS in thepresentation of its financial statements. After receipt of comments from theSEC in connection with its review of the Company’s registration statement onForm SB-2 originally filed on July 27, 2005 and further review of this issue,the Company concluded it was the record, but not beneficial, owner of NFSshares, and that any ownership interest was at most temporary. The Companytherefore decided to restate its financial statements to more accuratelyreflect the impact of its temporary ownership of NFS on the equity method.However, the SEC continued to comment on the accounting presentation of theCompany’s ownership of NFS.

In part because ofdifficulty obtaining necessary information from NFS to clarify the ownershipissue, the Company commenced an action against NFS (the “Action”) on or aboutFebruary 13, 2006, in District Court, Arapahoe County, Colorado, seekingdissolution of NFS, the appointment of a receiver, and access to NFS corporaterecords. The Company commenced the Action uncertain whether or when therequired spin-off of NFS shares pursuant to the terms and conditions of theMerger had occurred under Colorado corporate law. The Company asserted in theAction that it believed it was a record shareholder of NFS as of the date ofthe request and had standing for the relief sought. NFS denied that the Companyhad standing to act as a shareholder and asserted that the Company had not beena shareholder of NFS since September 9, 2004.

On May 19, 2006, theCompany entered into a Settlement Agreement and Mutual Release (the “Agreement”)by and among the Company, NFS and John McKowen, the Chief Executive Officer ofNFS and former Chief Executive Officer and Director of the Company(collectively, the “Parties”). The Agreement settled all disputes amongst theParties relating to the Action, seeking dissolution of NFS, the appointment ofa receiver, and access to the NFS corporate records. The Agreement provided for(i) agreed access by the Company to the financial records of NFS, (ii) acomplete mutual release between the

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Parties of any and all claims relating to the Action,and (iii) the granting of certain rights extending the exercise period foroptions and warrants held by NFS and certain of its affiliates, certain rightsconcerning cashless exercise of those securities if they are not registered byJanuary 30, 2007, and certain modifications to the registration rights held byNFS and certain of its affiliates, permitting the Company to complete theregistration of securities issued in the $34.4 million private placementcompleted by the Company in July, 2005, before registering Company securitiesheld by NFS and certain of its affiliates.

In addition, theAgreement provided that NFS would file for declaratory relief or a declaratoryaction in the Court solely on the issue of whether the Company was a recordowner of NFS shares at any time after September 9, 2004. On June 20, 2006, theCourt issued its Findings of Fact and Conclusions of Law in connection with thedeclaratory action sought by the Parties on the issue of our record ownershipin NFS.  The Order stated that theCompany was not a shareholder of NFS at any time after September 9, 2004.

**Note 10 —Subsequent Events**

In April 2006, theCompany signed a Purchase and Sales Agreement (“PSA”) with KRS Marine, aGeneral Partnership, Boom Boys Cranes, LLC and Rasmussen Equipment Company forthe purchase of a barge, crane and related equipment.  The total purchase price for the barge, craneand the additional equipment is six million U.S. Dollars ($6,000,000).  The Company intends to utilize the barge forthe initial development of the Corvina gas field and may also utilize it forthe expected development of the Albacora oil field, and potential appraisalwells in the Piedra Redonda gas field.

In June 2006, the Companyannounced that its Chief Financial Officer had resigned his position with theCompany effective July 1, 2006.  TheCompany’s Corporate Controller will serve as Interim Chief Financial Officerwhile the Company conducts a search for a permanent replacement.

In June 2006, the Companyannounced that it completed a private placement of common stock for proceeds of$12,325,500.  The company sold 4,482,000shares to eight institutional and accredited investors at a price of $2.75 pershare.  There were no warrants or dilutivesecurities issued to the investors in connection with the offering.  The offering was placed directly by theCompany and there were no placement fees. However, the Company issued warrants to purchase 150,000 shares of theCompany’s common stock to Morgan Keegan & Company, Inc. in considerationfor their financial advisory services. The warrants shall have an exercise price of $3.00 per share and have afive year term.  The funds from thisoffering will be used primarily to continue development of the Corvina andAlbacora fields that are in Block Z-1, located offshore in northwestern Peru.

In July 2006, Perupetroofficially informed the Company that its proposal for the 248,000 acre BlockXXIII, located onshore in northwest Peru between the Company’s Blocks Z-1 andXIX, was the winning bid in their recent tender process.  The Company has begun the process ofpresenting all necessary documentation to become the qualified operator of thisnew block and subsequent negotiation of the exploration and production licensecontract.

**Item 2.  Management’s Discussion and Analysis ofFinancial Condition and Results of Operations**

**Business**

BPZ Energy, Inc., aColorado corporation, formerly named Navidec, Inc., was incorporated in 1993and is based in Houston, Texas.  We arean exploratory stage company focused on the exploration and production of oiland natural gas and the complementary development of gas-fired powergeneration.

On September 10,2004, BPZ Energy, Inc., a Texas corporation, consummated a reverse merger withNavidec, Inc. whereby BPZ-Texas became a wholly owned subsidiary ofNavidec.  However, in the Merger, thestockholder group of BPZ-Texas obtained majority ownership and managementcontrol of the combined company.  TheMerger was treated, for accounting purposes, as a capital transaction ratherthan a business combination.  It isequivalent to the issuance of common stock by BPZ-Texas for the net assets ofNavidec, accompanied by a recapitalization. This accounting treatment is identical to that resulting from a reversemerger under SFAS 141, except that no goodwill or other intangible asset hasbeen recorded.  On February 4, 2005,we changed our name from Navidec, Inc. to BPZ Energy, Inc.  Although our name has been changed, thepre-merger company may be referred to as Navidec in this filing to avoidconfusion.

The Merger Agreement provided that all of thepre-merger business operations, assets and liabilities of Navidec would betransferred to a wholly owned subsidiary, NFS, followed by the transfer ofownership of NFS to the shareholders of record as of September 9, 2004,the day prior to the consummation of the Merger.  Accordingly, the pre-merger shareholders ofBPZ-Texas were not entitled to receive shares of NFS.  Upon consummation of the Merger, we becamecontractually and

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irrevocablybound to the spin-off of NFS to such pre-merger shareholders.  All legal requirements for the transfer ofownership of NFS have been completed except for registration of the NFS shareswith the Securities and Exchange Commission and the final distribution of NFScommon shares to the pre-merger shareholders of the Company.  We have no control over the registrationprocess of NFS and cannot predict when, or if, the management of NFS will beable to complete the registration of NFS common shares.  NFS’ results are excluded from the Company’sfinancial statements for all periods presented.

We maintain a registeredbranch office in Peru.  Currently, wehave exclusive rights and license agreements for oil and gas exploration andproduction covering a total of approximately 2.2 million acres in northwestPeru.  Our license contracts cover 100%ownership of both Block Z-1 (739,205 acres), which was signed inNovember 2001 and Block XIX (472,860 acres), which was signed inDecember 2003. Our license contracts provide for an initial explorationperiod of seven to thirteen years and seven to ten years, respectively andrequire that we conduct specified activities on the properties during thisperiod.  If our exploration activitiesare successful, the total contract term can extend up to 30 years for oilexploration and production and 40 years for gas exploration andproduction.  We are currently negotiatinga license contract for Block XXII (948,000 acres) which we previously heldunder a Technical Evaluation Agreement and was referred to as Area VI in ourprevious filings.  

Through our wholly ownedsubsidiary, SMC Ecuador Inc. (a Delaware corporation), and its registeredbranch in Ecuador, we also own a 10% non-operated working interest in an oil andgas producing property, Block 2, located in the southwest region of Ecuador(the “Santa Elena Property”).  Thelicense agreement covering the property extends through May 2016.

We are in the exploratorystage and to date our activities in Peru have been limited to analysis andevaluation of technical data on the properties and preparation of thedevelopment plans for the properties, including detailed engineering and designof the power plant and gas processing facilities, refurbishment of one of our offshoreplatforms, procuring machinery and equipment for our drilling campaign,obtaining all necessary environmental and operating permits, as well assecuring the required capital and financing to complete our current plan ofoperation. We have not drilled any wells or recognized any revenues fromoperations and we do not anticipate generating significant revenues from ourproperties prior to the second half of 2007.

**Results of Operations**

Our operating and administrative expenses to date haveconsisted principally of general and administrative costs and geological,geophysical and engineering costs. General and administrative costs have increased significantly from$960,789 during the first quarter of 2005 to $1,575,440 during the firstquarter of 2006 as a result of our increased activity levels, additionalpersonnel and costs associated with being a public company.  In addition, we incurred $466,403 ofgeological, geophysical and engineering costs in the first quarter of 2006primarily related to our Block Z-1 gas-to-power project, compared to $138,065in the comparable period of 2005.

Also, during the three month period ended March 31, 2006 weincurred $542,915 in stock-based compensation as a result of amortizing thedeferred compensation expense related to (i) a grant of 150,000 shares ofrestricted common stock to our independent directors; (ii) a grant of970,000 shares of restricted common stock to three of our officers; and(iii) 500,000 stock options issued to the former CEO of Navidec, comparedto the $75,000, we incurred as a result of amortizing the deferred compensationexpense related to the 500,000 stock options issued to the former CEO ofNavidec in the comparable period of 2005.

We received net cash distributions from our Ecuadorproperty of $236,551 and $109,174 during the three months ended March 31,2006 and 2005, respectively.  Since ourinvestment consists of an interest in a producing oil and gas property, we areamortizing the investment on a straight-line basis over the remaining term ofthe license agreement covering the property. Accordingly, we recorded $46,896 and $21,380 of amortization expenseduring the three months ended March 31, 2006 and 2005, respectively.

We incurred interest expense of $1,452 in the first quarterof 2006 primarily related to other debt and incurred interest expense of $5,662and amortization of deferred financing costs of $28,955 for the three monthsended March 31, 2005, principally from notes payable incurred to finance theacquisition of SMC in June 2004

For the three monthsended March 31, 2006, we recorded registration delay expense totaling$1,031,946 of which $488,026 was paid in cash and $543,920 was settled byissuance of 196,624 shares of common stock. In connection with the private placement of 11,466,000 common shares inJuly 2005, we were obligated to prepare and file with the SEC a RegistrationStatement on Form S-1 and to use our best efforts to cause theRegistration Statement to be declared effective by

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the SEC no later than ninety days from closing. TheRegistration Statement has not been declared effective by the required date andwe are liable to the investors for liquidated damages in an amount equal to1.0% of the purchase price of the shares, approximately $343,980, for eachthirty day period until the Registration Statement is declared effective by theSEC. 

As a result of our increased cash balance from the privateplacement of common stock, we received interest income of $222,003 during thethree months ended March 31, 2006.

We realized a net loss of $3,238,666, or $0.08 per share,during the three months ended March 31, 2006, compared to a net loss of$1,112,849, or $0.04 per share for the same period in 2005.  

**Plan of Operation**

Our current plan of operation is focused primarily on exploitingthe resource opportunities in the offshore Block Z-1 in northwest Peru, inwhich we own a 100% working interest. Our initial project is the development of an integrated gas-to-powerproject which is more fully described below. The capital budget for our plan totals approximately $126.7 million. Toachieve our objectives, we must obtain significant financing from externalsources. We are attempting to secure financing for the project, but we do nothave firm commitments from external sources to allow us to undertake all of theoperations envisioned in this plan. See “Liquidity, Capital Resources andCapital Expenditures,” below, for further discussion.

Our first priority is drilling the initial gas wells in theCorvina Field to develop reserves and establish gas deliverability at expectedlevels.  In December 2005, we signeda drilling contract with Petrex S.A., a subsidiary of Saipem SpA of Italy.Under the contract, Petrex S.A. will provide a platform rig capable of drillingto 16,000 feet and upgrade the rig to meet our specifications.  We agreed to pay a $5.5 million fee tomobilize and upgrade the rig.  Inexchange, we will receive a competitive fixed day rate and exclusive rights touse the rig, at our option, during the two-year period commencing with deliveryand final acceptance of the rig which is expected in September 2006.  In addition, after the guaranteed two-yearperiod, we have the option to extend the contract for an additional year atmarket rates.

The Corvina Field has an existing platform which has beenrefurbished.   The platform was evaluatedas fit for operations by the independent risk management consulting firm ofABSG Consulting, Inc. and is ready for drilling operations. Accordingly, wecommenced mobilization of the drilling rig to the Corvina platform in July2006.

In April 2006 we acquired and equipped a deck barge thatwill be used to transport the drilling rig to the Corvina platform and then actas a tender for drilling operations at Corvina, and our other properties.  The large deck barge is also adequate to hostproduction facilities.  The deck barge,officially named BPZ-01, is equipped with a 200 ton crane for loading andoff-loading.  BPZ-01 and relatedequipment, including a smaller 35 ton crane, two winches and related spareparts, were acquired for approximately $6.0 million.  BPZ-01 is a critical element in the Company’sstrategy to control costs by allowing the use of existing platforms andavoiding the use of high priced drill ships or barges.  

Our initial plans call for the drilling of three new wellsfrom the existing platform.  There isalso a shut-in gas well which we intend to recomplete and utilize for gasproduction.  We have secured all tubulargoods to meet our planned needs for the first two gas wells of the initialthree-well drilling campaign.  We haveobtained the required environmental and drilling permits in order to commencedrilling operations.  The Company expectsto spud its first well in September 2006 and drilling to total depth isexpected to take approximately 28 days. The first well at Corvina will also satisfy our contractual explorationcommitment under the current second exploration period of the Block Z-1 LicenseContract.  Further development drillingfrom the existing platform, encompassing three additional wells, is expected tobe funded from project cash flows after the power plant is operational.

Our plan of operation envisions the installation of acompany-owned 160 megawatt (‘‘MW’’) gas-fired electric generation plant nearthe town of Caleta Cruz, in northwest Peru. In August 2005 we awarded the turnkey contract for the engineering,procurement and construction (EPC) of the power plant project to BTEC TurbinesLP of Houston (“BTEC”).  The contract wasawarded following a comprehensive six month bidding process that included fieldvisits by all of the bidders.  Under theEPC contract, the final terms of which are being negotiated, BTEC is expectedto supply two General Electric Frame 7 simple-cycle gas-fired turbines.  BTEC will also act as the main contractor forthe design, transportation, construction, startup and commissioning of thepower plant.  Our plan is to own 100% ofthe power plant.  Accordingly, ourrevenues from the natural gas delivered to the power plant will be derived fromthe sale of electricity.

We intend to construct a 10-mile offshore pipeline totransport natural gas from the Corvina Field to the power plant site at CaletaCruz.  The power plant site has anexisting substation and power transmission lines which, with certain upgrades,are expected to be capable of handling up to 300 MW of power.  In order to support our proposed electricgeneration project, we recently commissioned an independent power marketanalysis for the region.  The Peruvianelectricity market is deregulated and power is transported through aninterconnected national grid managed by the Committee for

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EconomicDispatching of Electricity (known as “COES”). Based on this study, we believe that we will be able to sell economicquantities of electricity from our initial 160 MW power plant at CaletaCruz.  We believe there may be anopportunity in the future to generate and profitably sell significantly greatervolumes of power into the Peruvian and Ecuadorian power markets.

Primarily as a result of delays in obtaining a drillingrig, the projected goal for first sales of power to the Peruvian power marketis now the second half of 2007.  Thistimeline is subject to many factors, including securing necessary financingcommitments, which are beyond our control. Based on the revised timeline, we intend to focus our capitalexpenditures on critical drilling activities. Procurement activities on other phases of the project will be delayed orrescheduled accordingly.  We believe thatwe have sufficient capital resources to fund our initial drilling program.  See “Liquidity, Capital Resources and CapitalExpenditures” below for further discussion.

In addition to the local power market targeted by ourproject in Peru, we intend to simultaneously develop a gas sales strategy innearby Ecuador to capitalize on what we believe to be significant upside gaspotential of the Corvina and Piedra Redonda Fields located in Block Z-1, aswell as the potentially significant natural gas resources in the adjacent onshoreBlock XIX.  These properties are within30 miles of the Ecuadorian border and can be developed for export sales ofeither raw gas or power generation via connection to the transmission system ofEcuador.  Our initial plan of operationcalls for us to construct a 40-mile pipeline from Caleta Cruz, the terminalpoint of our offshore pipeline from the Corvina Field, to Arenillas,Ecuador.  We intend to sell gas for thegeneration of electricity by third party power producers in the local market inEcuador.  We have negotiated severalpreliminary agreements for sales of gas. We are planning to complete this pipeline for first sales of gas toEcuador during the second half of 2007, though this schedule is subject tomany factors outside our control and no assurance can be given that we can meetthis schedule.

In addition to the initial Corvina Field developmentproject, we have other fields within Block Z-1 and other properties which weintend to exploit in the future.  Werecently completed our technical evaluation of Area VI, now named Block XXII,and have initiated negotiations to obtain a license contract for explorationactivities.  Block XXII is a largeonshore block in northwest Peru and encompasses a significant portion of theLancones Basin.  In July 2006 Perupetroofficially informed us that our proposal for the 248,000 acre Block XXIII,located onshore in northwest Peru between our Blocks Z-1 and XIX, was thewinning bid in their recent tender process. We are in the process of presenting all necessary documentation tobecome the qualified operator of this new block and will begin negotiating theexploration and production license contract thereafter. We have secured theenvironmental permits and other authorizations to shoot seismic in Block Z-1and Block XIX.  We are seeking to obtainadditional funding for these projects from industry or capital market sources,but we are not currently planning to make significant capital expenditures forseismic acquisition or other exploration and production activities outside theCorvina Field until we have secured such additional financing.

We are continuing to develop our engineering plans anddesigns for the various components of our initial plan of operation.  We have paid in full or in part for somecomponents of our initial plan and have obtained cost estimates for most of theremaining major equipment components and the shipping, construction,installation and associated services. However, the costs of these procurement and construction activities canbe difficult to accurately predict and are subject to change andcontingencies.  Based on our currentestimates, we expect that our initial project, including the cost of thenatural gas pipeline to Arenillas, Ecuador, will require total capitalexpenditures on the order of $126.7 million, including import duties andcontingencies.  Our budget has increasedas a result of higher projected drilling costs due to the tight market for oiland gas drilling equipment, the acquisition of the deck barge, the selection oflarger capacity turbines and other significant cost increases in other industryrelated items such as insurance.  Thisestimate of capital expenditures does not include value added tax (referred toas “IGV” in Peru).  IGV is generallyimposed on goods and services at a rate of 19%. Certain expenditures are exempt from IGV or eligible for acceleratedrefund.  IGV paid on capital expendituresis generally recoverable from our future revenue billings within Peru and isnot considered part of the capitalized costs of the equipment to which itrelates.  We may also be able to deferpayment of certain of these expenditures or obtain separate financing for theIGV.

**ProjectCapital Budget**
|                                      | ** ** | **($ millions)** | ** ** |
|--------------------------------------|------------|-----------------------|------------|
| Power plant and  related equipment   |       | $                     | 53.2       |   |
| Pipelines and  processing facilities |       | 37.4                  |       |
| Platform and  wells                  |       | 30.7                  |       |
| Contingencies                        |       | 5.4                   |       |
| Total estimated  capital budget      |       | $                     | 126.7      |   |

 

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**Liquidity, Capital Resources and Capital Expenditures**

Our initial project in the offshoreBlock Z-1 in northwest Peru, totaling approximately $126.7 million, includesthe refurbishment of the CX-11 platform, rehabilitation of an existing well andthe drilling of three new wells, installation of a 10-mile gas pipeline fromthe platform to shore, construction of a 160 MW simple-cycle electricgenerating plant, and the construction of a 40-mile gas pipeline to supply gasto third party generators in Arenillas, Ecuador.

In connection with theMerger, we received net proceeds of approximately $5.5 million from aprivate placement of our common stock. In July 2005, we completed a private placement of 11,466,000 sharesof common stock for net proceeds of approximately $31.9 million.  Morgan Keegan & Company, Inc.served as placement agent for the offering. We also received $3.4 million from the exercise of warrants during thethird and fourth quarters of 2005.  InMarch 2006 and June 2006, we completed private placements of 1,670,000 sharesand 4,482,000 shares of common stock, respectively, for net proceeds ofapproximately $5.0 million and $12.3 million, respectively.  As of March 31, 2006 our cash balance wasapproximately $27.0 million.

In May 2005, wesigned a Mandate Letter with International Finance Corporation (“IFC”), amember of the World Bank Group based in Washington, D.C.  The Mandate Letter specifies that the IFCwill appraise our project in Peru to determine the feasibility and structure ofa potential financing of up to $100 million. The IFC’s appraisal of the projectwill include a review of the technical, economic, commercial, financial,environmental and legal aspects of the project. IFC’s financing, the structureof which would be defined during the appraisal process, will depend on theproject and the Company meeting the IFC’s financing criteria, the overallfinancing plan being acceptable to IFC, approval of the investment bymanagement and the Board of IFC, and the execution of all appropriatedocumentation, in form and substance satisfactory to IFC.  As part of the Mandate, we have agreed to payfees of $285,000 and customary expenses during the appraisal period.  The IFC is continuing its due diligence on theproject.  In recognition of the reviseddrilling timeline, the IFC has extended the Mandate period to November 30, 2006and is reviewing an increase in the total amount of the financing based on theincreased capital budget for the project.

During the three months ended March 31, 2006 weincurred capital expenditures of approximately $4.4 million primarily fromcontinued work on the refurbishment of the Corvina platform and power plant andgas processing facilities designs.  Inaddition, during the year ended December 31, 2005, we incurred capitalexpenditures of approximately $4.4 million, primarily on refurbishment of theCorvina platform and power plant design costs. During 2005, we also deposited$1.3 million as restricted cash to secure our performance obligationsunder the second exploration period of the Block Z-1 licensecontract.  We intend to satisfy thisobligation by drilling the initial Corvina well, which is currently expected tocost approximately $6.0 million and is included in the capital budget for theproject.  

With our currentcash balance and proceeds from the expected IFC financing, we believe we willhave sufficient capital resources to execute the project as we currentlyenvision it.  However, the timing andexecution of our project is dependent on a variety of factors, includingtechnical design of facilities, permitting, availability of equipment, time andcosts required for delivery and construction, performance by contractors andfinancing, many of which are outside our control.

**Off-Balance Sheet Arrangements**

As of March 31, 2006, we had no transactions, agreements orother contractual arrangements with unconsolidated entities or financialpartnerships, often referred to as special purpose entities, which generallyare established for the purpose of facilitating off-balance sheet arrangements.

**CriticalAccounting Policies and Recent Accounting Pronouncements**

The discussion and analysis of our financial condition andresults of operations is based on our consolidated financial statements, whichhave been prepared in accordance with U.S. generally accepted accountingprinciples (“GAAP”).  Management usesestimates and assumptions in preparing the consolidated financial statements inaccordance with GAAP.  Those estimatesand assumptions affect the reported amounts of assets, liabilities, revenuesand expenses in the consolidated financial statements, and the disclosure ofcontingent assets and liabilities.  Wehave identified the following as critical accounting policies directly relatedto our business and operations, and the understanding of our financialstatements.

***SuccessfulEfforts Method of Accounting***

We follow the successful efforts method of accounting forour investments in oil and gas properties. Under this method, oil and gas lease acquisition costs and intangibledrilling costs associated with exploration efforts that result in the discoveryof proved reserves and costs associated with development drilling, whether ornot successful, are capitalized when incurred. Certain costs of exploratory wells are capitalized pendingdeterminations that proved reserves have been found.  If

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thedetermination is dependent upon the results of planned additional wells andrequired capital expenditures to produce the reserves found, the drilling costswill be capitalized as long as sufficient reserves have been found to justifycompletion of the exploratory well and additional wells are underway or firmlyplanned to complete the evaluation of the well. All costs related to unsuccessful exploratory wells are expensed whensuch wells are determined to be non-productive or at the one year anniversaryof completion of the well if proved reserves have not been attributed andcapital expenditures as described in the preceding sentence are notrequired.  We assess our capitalizedexploratory wells pending evaluation each quarter to determine whether costsshould remain capitalized or should be charged to earnings.  Other exploration costs, including geologicaland geophysical costs, are expensed as incurred.  We will recognize gains or losses on the saleof properties, should they occur, on a field-by-field basis.

The application of the successful efforts method ofaccounting requires management’s judgment to determine the proper designationof wells as either developmental or exploratory, which will ultimatelydetermine the proper accounting treatment of the costs incurred.  The results from a drilling operation cantake considerable time to analyze, and the determination that commercialreserves have been discovered requires both judgment and application ofindustry experience.  Wells may becompleted that are assumed to be productive and actually deliver oil and gas inquantities insufficient to be economic, which may result in the abandonment ofthe wells at a later date.  Theevaluations of oil and gas leasehold acquisition costs requires management’sjudgment to estimate the fair value of exploratory costs related to drillingactivity in a given area.

The successful efforts method of accounting can have asignificant impact on the operational results reported when we enter a newexploratory area in hopes of finding oil and gas reserves.  Seismic costs can be substantial which willresult in additional exploration expenses when incurred.  The initial exploratory wells may beunsuccessful and the associated costs will then be expensed as dry hole costsand any associated leasehold costs may be impaired.

***Impairmentof Long-Lived Assets***

We periodically evaluate the recoverability of the carryingvalue of our long-lived assets and identifiable intangibles by monitoring andevaluating changes in circumstances that may indicate that the carrying amountof the asset may not be recoverable. Examples of events or changes in circumstances that indicate that therecoverability of the carrying amount of an asset should be assessed includebut are not limited to (a) a significant decrease in the market value ofan asset, (b) a significant change in the extent or matter in which anasset is used or a significant physical change in an asset, (c) asignificant adverse change in legal factors or in the business climate thatcould affect the value of an asset or an adverse action or assessment by aregulator, (d) an accumulation of costs significantly in excess of theamount originally expected to acquire or construct an asset, and/or (e) acurrent period operating or cash flow loss combined with a history of operatingor cash flow losses or a projection or forecast that demonstrates continuinglosses associated with an asset used for the purpose of producing revenue.

We consider historical performance and anticipated futureresults in our evaluation of potential impairment.  Accordingly, when indicators of impairmentare present, we evaluate the carrying value of these assets in relation to theoperating performance of the business and future discounted and non-discountedcash flows expected to result from the use of these assets.  Impairment losses are recognized when theexpected future cash flows from an asset are less than its carrying value.

***FutureDismantlement, Restoration, and Abandonment Costs***

The accounting for future development and abandonment costschanged on January 1, 2003, with the issuance of Statement of FinancialAccounting Standards (“SFAS”) No. 143 “Accounting for Asset RetirementObligation” (“ARO”), which requires the fair value of a liability for an assetretirement obligation to be recognized in the period in which it is incurred ifa reasonable estimate of fair value can be made.  The associated asset retirement costs arecapitalized as part of the carrying amount of the long-lived asset.  The accrual is based on estimates of thesecosts for each of our properties based upon the type of production structure,reservoir characteristics, depth of the reservoir, market demand for equipment,currently available procedures and consultations with construction andengineering consultants.  Because thesecosts typically extend many years into the future, estimating these costs isdifficult and requires management to make estimates and judgments that aresubject to future revisions based on numerous factors, including changingtechnology, the political and regulatory environment and estimates as to theproper discount rate to use and timing of abandonment.

The Company acquired four offshore platforms inconnection with its Block Z-1 property. These platforms revert back to theGovernment of Peru at the end of the contract, provided they are in goodworking condition, with no further obligation to the company to dismantle orremove them. The Company and its legal advisors have reviewed Peruvian law andexisting regulations from the Peruvian Ministry of Energy and Mines inconjunction with the requirements of SFAS 143 and have concluded that there isno legal obligation to dismantle the platforms, as defined in SFAS 143, andtherefore recognition

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of anARO is not required. If, however, current laws or regulations were changed orthe platforms were no longer in good working order, the Company could beobligated to dismantle and remove them. In addition, our plan of operationsincludes the drilling of wells and the construction of an electric powergeneration plant.  We will be required toplug and abandon those wells and restore the well site and power generationsite upon completion of their production. However, due to the fact that we have not yet begun operations, we donot have sufficient information to determine the timing, nor calculate thepresent value, of the obligation. Therefore, no ARO provision is reflected in the accompanyingconsolidated financial statements.

**Disclosure RegardingForward-Looking Statements**

Wecaution that this document contains forward-looking statements.  All statements, other than statements ofhistorical facts, included in or incorporated by reference into thisForm 10-Q which address activities, events or developments which we expect,believe or anticipate will or may occur in the future are forward-lookingstatements. The words “believes,” “intends,” “expects,” “anticipates,” “projects,”“estimates,” “predicts,” “plans” and similar expressions, or the negativethereof, are also intended to identify forward-looking statements.  In particular, statements, expressed orimplied, concerning future operating results, the ability to replace orincrease reserves, or to increase production, or the ability to generate incomeor cash flows are by nature, forward-looking statements.  These statements are based on certainassumptions and analyses made by the management of BPZ in light of itsexperience and its perception of historical trends, current conditions andexpected future developments as well as other factors it believes are appropriatein the circumstances.  However,forward-looking statements are not guarantees of performance and no assurancecan be given that these expectations will be achieved.

Importantfactors that could cause actual results to differ materially from the expectationsreflected in the forward-looking statements include, but are not limited to anyof the following in the jurisdictions in which BPZ or its subsidiaries aredoing business:  the timing and extent ofchanges in commodity prices for crude oil, natural gas and related products,currency exchange rates, interest rates, inflation, the availability of goodsand services, drilling and other operational risks, availability of capitalresources, legislative or regulatory changes, political developments, acts ofwar and terrorism.  A more detaileddiscussion on risks relating to the oil and natural gas industry and to us isincluded in the Company’s Annual Report on Form 10-KSB/A for the yearended December 31, 2005.

Inlight of these risks, uncertainties and assumptions, we caution the reader thatthese forward-looking statements are subject to risks and uncertainties, manyof which are beyond our control, which could cause actual events or results todiffer materially from those expressed or implied by the statements.  All subsequent written and oralforward-looking statements attributable to us or persons acting on our behalfare expressly qualified in their entirety by the cautionary statements.  We undertake no obligations to update orrevise its forward-looking statements, whether as a result of new information,future events or otherwise.

**Item 3. Quantitative and Qualitative Disclosures About Market Risk**

In addition to the U.S. Dollar, we conduct ourbusiness in Peruvian Nuevo Soles and therefore are subject to foreign currencyexchange rate risk on cash flows related to expenses and investingtransactions. We do not expect to generate significant revenue from activitiesin Peru prior to 2007. In recent years, the exchange rate between U.S. Dollarsand Nuevo Soles has been relatively constant, consequently, we have experiencedno significant fluctuations in the value of goods and services we purchase inPeru because of currency exchange.

Themajority of our costs to operate our Peruvian offices and our exploration costsincurred for activities currently underway in Peru are denominated in U.S.Dollars. However, our exploration costs in Peru may be incurred under contractsdenominated in Peruvian Nuevo Soles or U.S. Dollars. To date, we have notengaged in hedging activities to hedge our foreign currency exposure. In thefuture, we may enter into hedging instruments to manage our foreign currencyexchange risk or continue to be subject to exchange rate risk.

**Item 4. Controls and Procedures**

**(a) Evaluation of Disclosure Controls and Procedures**

As of the end of the periodcovered by this report, we carried out an evaluation, under the supervision andwith the participation of our management, including our Chief Executive Officerand Chief Financial Officer, of the effectiveness of our disclosure controlsand procedures as defined in Rule 13a-15(e) of the Exchange Act.  Based upon that evaluation our ChiefExecutive Officer and Chief Financial Officer concluded that our disclosurecontrols and procedures were not effective as of the end of the period coveredby this report to provide reasonable assurance that information required to bedisclosed by

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the Company in the reports that the Company files orsubmits under the Exchange Act is recorded, processed, summarized and reportedwithin the time periods specified in the SEC’s rules and forms.

On January 17, 2006, the Company amended its 2004Annual Report on Form 10-KSB/A and Quarterly Reports on Form 10-QSB/A for theperiods ended March 31, 2005 and June 30, 2005. On September 26, 2006, the Company amended its 2005 Annual Report onForm 10-KSB filed on March 31, 2006.  Therestatements are a result of deficiencies in our internal controls and relateto the failure to properly (i) account for and describe the September 2004merger with Navidec, Inc.; (ii) value certain options assumed by the Company;(iii) account for the post-merger operations of Navidec Financial Services,Inc.; and (iv) account for expenses incurred on the Company’s behalf by itsformer parent, BPZ & Associates, Inc., prior to the merger. The Company’smanagement and Audit Committee have discussed these restatement issues andrelated internal controls deficiencies with Johnson Miller & Co., CPA’s PC,its independent registered public accounting firm, and has appropriatelyrecorded and disclosed those items in the Amendment No. 1 to its 2005 AnnualReport on From 10-KSB/A.

**(b) Changes in Internal Control over Financial Reporting**

We are in the process of improving our internalcontrols in an effort to remediate the deficiencies noted above. Theseimprovements include strengthening our accounting staff through the hiring of aController and an accounting and financial reporting manager in 2005 and 2006,respectively.  We have also engaged anindependent consulting firm to document and test our internal controls and makerecommendations for improvement. Additional effort may be needed to fullyremedy these deficiencies and we are continuing our efforts to improve andstrengthen our control processes and procedures. Our management and directorswill continue to work with our auditors and other outside advisors to ensurethat our controls and procedures become adequate and effective.

**PART II**

**Item 1.  Legal Proceedings**

See Note 9 of the Notes to Consolidated Financial Statements included in Part I, Item I, which is incorporated herein by reference.

**Item 1A.  Risk Factors**

None.

**Item 2.  Unregistered Sales of Equity Securities and Use of Proceeds**

On March 10, 2006 theCompany completed a private placement of 1,670,000 shares of common stock, nopar value, to four institutional and accredited investors pursuant to a StockPurchase Agreement dated as of March 8, 2006. The common stock was priced at$3.00 per share resulting in proceeds to the Company of $5,010,000.  In connection with the offer and sale of thecommon stock in the private placement, the Company relied on an exemption fromregistration under Section 4(2) of the Securities Act of 1933, as amended, andRegulation D, Rule 506 promulgated there under. The sale of common stock wasmade to accredited investors as defined in Regulation D, Rule 501(a). Nounderwriters were engaged in connection with the foregoing issuance ofsecurities.  

**Item 3.  Defaults Upon Senior Securities**

None.

**Item 4.  Submission of Matters to a Vote of Security Holders**

None.

**Item 5.  Other Information**

None.

**Item 6.  Exhibits**
| 10.2   |   | Stock Purchase Agreement dated as of March 8, 2006  (Incorporated by reference to Exhibit 10.1 to Form 8-K filed on  March 14, 2006) |
|--------|--------|------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                           |
| 10.3   |   | Stock Purchase Agreement dated as of June 30, 2006  (Incorporated by reference to Exhibit 10.1 to Form 8-K filed on  July 6, 2006)   |

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| 31.1   |   | Certification of the Chief Executive Officer  pursuant to Section 302 of the Sarbanes - Oxley Act of 2002. (Filed  herewith)                                                |
|--------|--------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                                             |
| 31.2   |   | Certification of the Chief Financial Officer  pursuant to Section 302 of the Sarbanes - Oxley Act of 2002. (Filed  herewith)                                                |
|   |   |                                                                                                                                                                             |
| 32.1   |   | Certification of Chief Executive Officer pursuant to  18 U.S.C. Section 1350 as adopted pursuant to Section 906 of the  Sarbanes - Oxley Act of 2002. (Filed herewith) |
|   |   |                                                                                                                                                                             |
| 32.2   |   | Certification of Chief Financial Officer pursuant to  18 U.S.C. Section 1350 as adopted pursuant to Section 906 of the  Sarbanes - Oxley Act of 2002. (Filed herewith) |

** **

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** **

**SIGNATURES**

In accordance with the requirements of the Securities Exchange Act, the registrant has caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
| BPZ ENERGY, INC.                       |     |
|----------------------------------------|----------|
|                                   |     |
| */s/  Manuel Pablo Zuniga-Pflucker*    | * * | * * |
| Manuel Pablo  Zuniga-Pflucker          |     |
| President and  Chief Executive Officer |     |
|                                   |     |
| Date: September  26, 2006              |     |
|                                        |          |  |

 

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