GOLD RESERVE LTD 10-Q

Item 1. Financial Statements (Unaudited) CONSOLIDATED BALANCE SHEETS September 30, 2011 (unaudited) U.S. Dollars September 30, 2011 December 31, 2010 ASSETS Current Assets: Cash and cash equivalents (Note 4) $ 62,449,366 $ 58,186,478 Assets held for sale (Note 7) – 7,968,813 Marketable equity securities (Note 5) 895,012 2,263,923 Deposits, advances and other 408,457 1,507,822 Total current assets 63,752,835 69,927,036 Property, plant and equipment, net (Note 7) 21,460,175 28,503,330 Total assets $ 85,213,010 $ 98,430,366 LIABILITIES Current Liabilities : Accounts payable and accrued expenses $ 1,939,726 $ 1,633,150 Accrued interest 1,641,849 234,550 Total current liabilities 3,581,575 1,867,700 Convertible notes (Note 12) 101,546,242 100,754,404 Total liabilities 105,127,817 102,622,104 Measurement uncertainty (Note 1) SHAREHOLDERS' EQUITY Serial preferred stock, without par value, none issued Common shares and equity units, without par value 243,972,305 243,582,458 Contributed Surplus 5,171,603 5,171,603 Stock options (Note 9) 16,765,684 14,518,570 Accumulated deficit (285,670,242) (268,571,593) Accumulated other comprehensive income (loss) (43,466) 1,217,915 KSOP debt (Note 8) (110,691) (110,691) Total shareholders' deficit (19,914,807) (4,191,738) Total liabilities and shareholders' deficit $ 85,213,010 $ 98,430,366 The accompanying notes are an integral part of the consolidated financial statements. Approved by the Board of Directors: s/ Chris D. Mikkelsen s/ Patrick D. McChesney 1 CONSOLIDATED STATEMENTS OF OPERATIONS For the Three and Nine Months Ended September 30, 2011 and 2010 (unaudited) Three Months Ended Nine Months Ended U.S. Dollars 2011 2010 2011 2010 OTHER INCOME Interest $ 25,598 $ 62,748 $ 112,399 $ 191,285 Gain on disposition of marketable securities 243,565 42,042 755,233 148,593 Gain on sale of equipment 913,732 36,633 1,460,727 406,677 Foreign currency gain (loss) 31,635 (56,181) 9,773 88,105 1,214,530 85,242 2,338,132 834,660 EXPENSES Corporate general and administrative 1,199,949 729,920 5,525,691 2,511,437 Venezuelan operations 145,037 327,830 893,794 1,204,481 Equipment holding costs 330,497 305,979 1,269,058 784,968 Corporate communications 131,661 101,124 511,635 363,415 Legal and accounting 124,750 81,148 427,689 372,810 Arbitration (Note 3) 2,649,335 3,437,287 5,795,180 5,861,225 4,581,229 4,983,288 14,423,047 11,098,336 Loss before interest expense and income tax (3,366,699) (4,898,046) (12,084,915) (10,263,676) Interest expense (1,694,917) (1,674,762) (5,013,734) (4,960,222) Loss before income tax (5,061,616) (6,572,808) (17,098,649) (15,223,898) Income tax benefit (expense) – (2,676) – 1,500 Net loss for the period $ (5,061,616) $ (6,575,484) $ (17,098,649) $ (15,222,398) Net loss per share, basic and diluted $ (0.09) $ (0.11) $ (0.29) $ (0.26) Weighted average common shares outstanding 59,522,382 57,806,689 59,451,148 57,700,834 CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS For the Three and Nine Months Ended September 30, 2011 and 2010 (unaudited) Three Months Ended Nine Months Ended U.S. Dollars 2011 2010 2011 2010 Net loss for the period $ (5,061,616) $ (6,575,484) $ (17,098,649) $ (15,222,398) Other comprehensive income (loss), net of tax: Unrealized gain (loss) on marketable securities (130,344) 679,216 (506,148) 1,234,952 Adjustment for realized gains included in net loss (243,565) (42,042) (755,233) (148,593) Other comprehensive income (loss) (373,909) 637,174 (1,261,381) 1,086,359 Comprehensive loss for the period $ (5,435,525) $ (5,938,310) $ (18,360,030) $ (14,136,039) The accompanying notes are an integral part of the consolidated financial statements. 2 CONSOLIDATED STATEMENTS OF CASH FLOWS For the Three and Nine Months Ended September 30, 2011 and 2010 (unaudited) Three Months Ended Nine Months Ended U.S. Dollars 2011 2010 2011 2010 Cash Flows from Operating Activities: Net loss for the period $ (5,061,616) $ (6,575,484) $ (17,098,649) $ (15,222,398) Adjustments to reconcile net loss to net cash used by operating activities: Stock option compensation 405,704 10,690 2,345,983 91,862 Depreciation 14,103 29,845 54,549 105,564 Gain on sale of equipment (913,732) (36,633) (1,460,727) (406,677) Amortization of premium on marketable debt securities – 48,065 – 142,628 Accretion of convertible notes 287,618 270,149 791,838 741,012 Other – 8,283 – (4,673) Net gain on disposition of marketable securities (243,565) (42,042) (755,233) (148,593) Shares issued for compensation 187,193 26,465 1,311,864 264,605 Changes in non-cash working capital: Net decrease (increase) in deposits and advances 311,858 76,190 62,701 (133,306) Net increase (decrease) in accounts payable and accrued expenses (1,523,752) 2,242,781 1,713,875 298,681 Net cash used in operating activities (6,536,189) (3,941,691) (13,033,799) (14,271,295) Cash Flows from Investing Activities: Proceeds from disposition of marketable securities 343,588 134,937 1,561,337 744,529 Purchase of marketable securities (42,732) (99,159) (698,574) (931,135) Purchase of property, plant and equipment (6,451) (2,552) (39,395) (500,992) Proceeds from sales of equipment 7,817,146 50,506 16,457,541 8,901,590 Decrease in restricted cash – – – 494,076 Net cash provided by investing activities 8,111,551 83,732 17,280,909 8,708,068 Cash Flows from Financing Activities: Net proceeds from the issuance of common shares – – 15,778 41,084 Net cash provided by financing activities – – 15,778 41,084 Change in Cash and Cash Equivalents: Net increase (decrease) in cash and cash equivalents 1,575,362 (3,857,959) 4,262,888 (5,522,143) Cash and cash equivalents - beginning of period 60,874,004 59,298,629 58,186,478 60,962,813 Cash and cash equivalents - end of period $ 62,449,366 $ 55,440,670 $ 62,449,366 $ 55,440,670 The accompanying notes are an integral part of the consolidated financial statements. 3 CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY For the Nine Months Ended September 30, 2011 and the Year Ended December 31, 2010 (unaudited) Common Shares and Equity Units Contributed Surplus Common Shares and Equity Units Held by Affiliates Stock Options Accumulated Deficit Accumulated Other Comprehensive income KSOP Debt Common Shares Equity Units Amount Balance, December 31, 2009 57,694,997 500,236 $ 242,207,200 $ 5,171,603 $ (636,267) $ 14,448,889 $(246,934,463) $ (277,225) $ (110,691) Net loss (21,637,130) Other comprehensive income 1,495,140 Stock option compensation 99,532 Fair value of options exercised 29,851 (29,851) Common shares issued for: Cash 150,554 43,661 Services 924,300 1,503,566 Decrease in shares held by affiliates (201,820) 636,267 Balance, December 31, 2010 58,769,851 500,236 243,582,458 5,171,603 - 14,518,570 (268,571,593) 1,217,915 (110,691) Net loss (17,098,649) Other comprehensive loss (1,261,381) Stock option compensation 2,345,983 Fair value of options exercised 98,869 (98,869) Common shares issued for: Cash 95,921 15,778 Services 160,000 275,200 Balance, September 30, 2011 59,025,772 500,236 243,972,305 $ 5,171,603 $ - 16,765,684 $(285,670,242) $ (43,466) $ (110,691) The accompanying notes are an integral part of the consolidated financial statements. 4 Selected Notes to Consolidated Financial Statements For the Nine Months Ended September 30, 2011 and 2010 (unaudited) Expressed in U.S. Dollars Note 1. The Company and Significant Accounting Policies The Company. Gold Reserve Inc. (the “Company”) is engaged in the business of acquiring, exploring and developing mining projects. The Company is an exploration stage company incorporated in 1998 under the laws of the Yukon Territory, Canada and is the successor issuer to Gold Reserve Corporation which was incorporated in 1956. In February 1999, Gold Reserve Corporation became a subsidiary of Gold Reserve Inc., the successor issuer. Generally, each shareholder exchanged its Gold Reserve Corporation shares for an equal number of Gold Reserve Inc. Class A Common shares. For tax reasons, certain U.S. holders elected to receive equity units in lieu of Gold Reserve Inc. Class A common shares. An equity unit is comprised of one Gold Reserve Inc. Class B common share and one Gold Reserve Corporation Class B common share, is substantially equivalent to a Class A common share and is generally immediately convertible into a Gold Reserve Inc. Class A common share. Unless otherwise noted, general references to common shares of the Company include Class A common shares and Equity Units as a group. At September 30, 2011, there were 500,236 Equity Units outstanding. From 1992 to 2008 the Company focused substantially all of its management and financial resources on the development of the Brisas gold and copper project located in the Kilometre 88 mining district of the State of Bolivar in south-eastern Venezuela (which we refer to as the “Brisas Project” or “Brisas”). As further detailed in Note 3, we discontinued development of the Brisas Project after it was seized by the Bolivarian Republic of Venezuela (“Venezuela”) and are resolving our investment dispute through arbitration against Venezuela under the Additional Facility Rules of the International Centre for Settlement of Investment Disputes (“ICSID”). Concurrent with the arbitration we are pursuing settlement of our dispute with Venezuela and are seeking to invest in or acquire alternative mining projects. The Company has no revenue producing mining operations at this time. All amounts shown herein are expressed in U.S. dollars unless otherwise noted. Basis of Presentation. For the fiscal year commencing in 2011, the Company changed its basis of accounting and financial reporting from Canadian GAAP to comply with US GAAP. The Company accounted for this change in presentation on a retroactive basis. The balance sheet amounts as of December 31, 2010 and the comparative operating results for the three and nine months ended September 30, 2010 were restated accordingly. A reconciliation of Canadian GAAP to US GAAP is included in Note 19 of the Company’s financial statements as of December 31, 2010 and for the year then ended. Certain information and note disclosures normally included in the annual financial statements have been condensed or omitted. Accordingly, these unaudited interim consolidated financial statements should be read in conjunction with the audited annual consolidated financial statements for the year ended December 31, 2010. The unaudited interim financial statements reflect all normal adjustments which in the opinion of management are necessary for a fair statement of the results for the periods presented. Principles of Consolidation . These consolidated financial statements include the accounts of the Company, Gold Reserve Corporation, four Venezuelan subsidiaries, two Barbadian subsidiaries and one Aruban subsidiary which were formed to hold the Company’s interest in its foreign subsidiaries or for future transactions. All subsidiaries are wholly owned. All intercompany accounts and transactions have been eliminated on consolidation. The Company’s policy is to consolidate those subsidiaries where control exists. Prior to 2011, the consolidated financial statements also included the accounts of two domestic subsidiaries, Great Basin Energies, Inc. (“Great Basin”) and MGC Ventures Inc. (“MGC Ventures”). Great Basin and MGC Ventures were 45% and 44% owned, respectively until December 2010 when the Company disposed of its equity interest in the subsidiaries. See Note 10 to the consolidated financial statements. Cash and Cash Equivalents . The Company considers short-term, highly liquid investments purchased with an original maturity of three months or less to be cash equivalents for purposes of reporting cash equivalents and cash flows. Cash and cash equivalents are designated as held-for-trading and recorded at fair value. The Company manages the exposure of its cash and cash equivalents to credit risk by diversifying its holdings into major Canadian and U.S. financial institutions. Exploration and Development Costs . Exploration costs incurred in locating areas of potential mineralization or evaluating properties or working interests with specific areas of potential mineralization are expensed as incurred. Development costs of proven mining properties not yet producing are capitalized at cost and classified as capitalized exploration costs under property, plant and equipment. Property holding costs are charged to operations during the period if no significant exploration or development activities are being conducted on the related properties. Upon commencement of production, capitalized exploration and development costs would be amortized based on the estimated proven and probable reserves benefited. Properties determined to be impaired or that are abandoned are written-down to the estimated fair value. Carrying values do not necessarily reflect present or future values. 5 Selected Notes to Consolidated Financial Statements For the Nine Months Ended September 30, 2011 and 2010 (unaudited) Expressed in U.S. Dollars Property, Plant and Equipment . Property, plant and equipment are recorded at the lower of cost less accumulated depreciation or estimated net realizable value. Included in property, plant and equipment is $29 million of equipment that has been adjusted to an estimated net realizable value of $21 million which is not being depreciated. Replacements and major improvements are capitalized. Maintenance and repairs are charged to expense as incurred. The cost and accumulated depreciation of assets retired or sold are removed from the accounts and any resulting gain or loss is reflected in operations. Depreciation is provided using straight-line and accelerated methods over the lesser of the useful life or lease term of the related asset. Assets Held for Sale. Long-Lived assets are classified as held for sale in the period in which certain criteria are met. Assets held for sale are measured at the lower of carrying amount or fair value less cost to sell and are not depreciated as long as they remain classified as held for sale. Impairment of Long Lived Assets . The Company reviews long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying amount of the assets may not be recoverable. If the sum of the expected future net cash flows to be generated from the use or disposition of a long-lived asset (undiscounted and without interest charges) is less than the carrying amount of the asset, an impairment loss is recognized and the asset is written down to fair value. Fair value is generally determined by discounting estimated cash flows, using quoted market prices where available or making estimates based on the best information available. Foreign Currency. The U.S. dollar is the Company’s and its foreign subsidiaries’ functional currency. Accordingly, foreign currency amounts are translated into U.S. dollars using the temporal method. Non-monetary assets and liabilities are translated at historical rates, monetary assets and liabilities are translated at current rates and revenue and expense items are translated at average exchange rates during the reporting period, except for depreciation which is translated at historical rates. Translation gains and losses are included in the statement of operations. Stock Based Compensation . The Company uses the fair value method of accounting for stock options. The fair value of options granted to employees is computed using the Black-Scholes method as described in Note 9 and is expensed over the vesting period of the option. For non-employees, the fair value of stock based compensation is recorded as an expense over the vesting period or, if earlier, upon completion of performance. Consideration paid for shares on exercise of share options, in addition to the fair value attributable to stock options granted, is credited to capital stock. Fair value of restricted stock issued as compensation is based on the grant date market value and expensed over the vesting period. The Company also maintains the Gold Reserve Director and Employee Retention Plan. Each Unit granted to a participant entitles such person to receive a cash payment equal to the fair market value of one Gold Reserve Class A Common Share (1) on the date the Unit was granted or (2) on the date any such participant becomes entitled to payment, whichever is greater. Stock options, restricted stock and Units granted under their respective plans become fully vested and exercisable and/or payable upon a change of control. Income Taxes . The Company uses the liability method of accounting for income taxes. Future tax assets and liabilities are determined based on the differences between the tax basis of assets and liabilities and those amounts reported in the financial statements. The future tax assets or liabilities are calculated using the enacted tax rates expected to apply in the periods in which the differences are expected to be settled. Future tax assets are recognized to the extent that they are considered more likely than not to be realized. Use of Estimates . The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Measurement Uncertainty. The realizable value of the remaining equipment, originally purchased for the Brisas Project, may be different than management’s current estimate. Any operations we may have are subject to the effects of changes in legal, tax and regulatory regimes, political, labor and economic developments, social and political unrest, currency and exchange controls, import/export restrictions and government bureaucracy in the countries in which we may operate. The Company operates and files tax returns in a number of jurisdictions. The preparation of such tax filings requires considerable judgment and the use of assumptions. Accordingly, the amounts reported could vary in the future. Net Loss Per Share . Net loss per share is computed by dividing net loss by the combined weighted average number of Class A and B common shares outstanding during each year. In periods in which a loss is incurred, the effect of potential issuances of shares under options and convertible notes would be anti-dilutive, and therefore basic and diluted losses per share are the same. Convertible Notes . Convertible notes are classified as a liability and are initially recorded at face value, net of issuance costs. The notes are subsequently accreted to face value using the effective interest rate method over the expected life of the notes, currently estimated to be June 15, 2012, with the resulting charge recorded as interest expense. 6 Selected Notes to Consolidated Financial Statements For the Nine Months Ended September 30, 2011 and 2010 (unaudited) Expressed in U.S. Dollars Comprehensive Income . Comprehensive income includes net income or loss and other comprehensive income. Other comprehensive income may include unrealized gains and losses on available-for-sale securities, gains and losses on certain derivative instruments and foreign currency gains and losses from self sustaining foreign operations. The Company presents comprehensive income and its components in the consolidated statements of comprehensive loss. Financial Instruments. The Company’s financial instruments consist of cash and cash equivalents, marketable securities, accounts payable, accrued expenses and convertible notes. Cash and cash equivalents are classified as held for trading and any changes in fair value are charged to the statement of operations. Marketable equity securities are classified as available for sale with any unrealized gain or loss recorded in other comprehensive income. Marketable debt securities are classified as held-to-maturity and are measured at amortized cost using the effective interest rate method. Other financial liabilities are accounted for at cost or amortized cost. Note 2. New Accounting Policies In June 2011, the FASB issued Accounting Standards Update 2011-05 that requires changes in the presentation of comprehensive income. Effective for periods beginning after December 15, 2011, entities will have the option of presenting the total of comprehensive income, the components of net income, and the components of other comprehensive income either in a single continuous statement of comprehensive income or in two separate but consecutive statements. The adoption of the updated guidance will not have an effect on the Company’s financial statements. In May 2011, the FASB issued Accounting Standards Update 2011-04 which contains amendments resulting in common fair value measurement and disclosure requirements in financial statements prepared in accordance with U.S. GAAP and IFRS. The amendments change the wording used to describe the requirements in U.S. GAAP for measuring fair value and for disclosing information about fair value measurements. This update is effective for periods beginning after December 15, 2011 and is not expected to have a significant impact on the Company’s financial statements. In January 2010, the FASB issued new guidance (ASU 2010-06) that requires new disclosures for fair value measurements and provides clarification for existing disclosures requirements. More specifically, it requires reporting entities to 1) disclose separately the amount of significant transfers into and out of Level 1 and Level 2 fair-value measurements and to describe the reasons for the transfers, and 2) provide information on purchases, sales, issuances and settlements on a gross basis rather than net in the reconciliation of Level 3 fair-value measurements. This guidance is effective for interim and annual reporting periods beginning after December 15, 2009, except for the Level 3 fair-value measurements disclosures that are effective for fiscal years beginning after December 15, 2010. The adoption of the updated guidance did not have an effect on the Company’s financial statements. Note 3. Expropriation of Brisas Project by Venezuelan Government and Related Arbitration From 1992 to 2008 the Company focused substantially all of its management and financial resources on the development of the Brisas gold and copper project located in the Kilometer 88 mining district of the State of Bolivar in south-eastern Venezuela. After approval of the Brisas operating plan by the Ministry of Mines and the Environmental and Social Impact Study by the Ministry of Environment in 2003 and early 2007, respectively, the Ministry of Environment issued in March 2007, the Authorization to Affect which authorized the commencement of construction activities on the Brisas Project. In April 2008, the Ministry of Environment revoked the Authorization to Affect without prior notification. On October 21, 2009 the Company filed a Request for Arbitration under the Additional Facility Rules of the International Centre for Settlement of Investment Disputes (“ICSID”), against Venezuela (“Respondent”) and thereafter on October 26, 2009, Venezuelan government personnel took physical possession of the property. In November 2009 the Company’s Request for Arbitration was registered by ICSID (Gold Reserve Inc. v. Bolivarian Republic of Venezuela (ICSID Case No. ARB(AF)/09/1)). The Company is seeking compensation of $2.1 billion in the arbitration for all of the loss and damage resulting from Venezuela’s wrongful conduct which includes the full market value of the legal rights to develop the Brisas Project, the value of the Choco 5 Property and interest of approximately $400 million on the claim calculated since the loss. 7 Selected Notes to Consolidated Financial Statements For the Nine Months Ended September 30, 2011 and 2010 (unaudited) Expressed in U.S. Dollars The full market value of the legal rights to develop the Brisas Project was measured by an independent expert pursuant to a fair market value standard utilizing three standard valuation approaches: (1) the Discounted Cash Flow (“DCF”) Approach, (2) the Comparable Publicly Traded Company (“CPTC”) Approach, and (3) the Comparable Transaction (“CT”) Approach. These three valuations converged in a reasonably consistent range of values, which were combined to arrive at a weighted average valuation based upon the independent expert’s qualitative assessment of the robustness of the data available to implement each valuation methodology. The DCF Approach carried the greatest weight, as it was based upon robust financial projections specifically for the Brisas Project prepared on a contemporaneous basis for regulatory filing and bankable feasibility purposes. The CPTC Approach was weighted the second highest due to the consistency of the valuation multiples observed from the comparable companies identified by the expert. The CT Approach was weighted the least due to the wider range of valuation multiples observed from gold mining companies identified as comparable by the expert. Venezuela has an estimated 17 pending arbitration actions being pursued against it at this time before ICSID and has reportedly settled and/or made full or partial payment for damages to a limited number of claimants in past months, although management has no specific information regarding the actual amounts paid or what percentage such payments represented of the original claim against Venezuela. Based on the uncertain nature of arbitration under investment treaties, the timing and the amount of an award or settlement, if any, and the likelihood of its collection and the timing thereof cannot be determined at this time. In compliance with the schedule previously set by the Tribunal, we filed our initial written submission, known as the Memorial, on September 24, 2010 alleging violations of three provisions of the Canada-Venezuela Bilateral Investment Treaty and seeking compensation corresponding to the restitution, or fair market, value of the rights to develop the Brisas Project and Choco 5, as of the date of the award. On April 14, 2011, based on a revised written submission schedule established by the Tribunal in February 2011, the Respondent submitted its reply to the Company’s Memorial, known as the Counter-Memorial. More recently, on July 6, 2011, the Tribunal approved a joint request by both parties for an additional extension of time to submit the Company’s Reply from July 15, 2011 to July 29, 2011 and Venezuela’s Rejoinder from October 17, 2011 to November 14, 2011. In accordance with the procedural calendar in the case, the Company filed its Reply on July 29, 2011, updating its claim to $2.1 billion to account for interest accrued since its earlier filing. In response to a recent request from Venezuela, the Tribunal agreed to amend the procedural calendar to permit Venezuela to file its Rejoinder on December 5, 2011 and confirmed that the oral hearing scheduled to take place February 6-17, 2012 in Washington, D.C remains unchanged. The Rejoinder is the last filing to be made prior to the oral hearing. See “Part II- Other Information- Item 1. Legal Proceedings- Arbitration.” Note 4. Cash and Cash Equivalents September 30, December 31, 2011 2010 US Treasury bills $ 39,999,044 $ – Bank deposits 17,050,946 52,307,918 Money market funds 5,399,376 5,878,560 Total $ 62,449,366 $ 58,186,478 At September 30, 2011 and December 31, 2010, the Company had approximately $278,000 and $39,000 respectively, in Venezuela and banks outside Canada and the U.S. As of September 30, 2011, 57% and 43% of bank deposits were maintained in U.S. and Canadian banks, respectively and all of the U.S. deposits were maintained in an FDIC insured account. Note 5. Marketable Equity Securities September 30, December 31, 2011 2010 Fair value at beginning of year $ 2,263,923 $ 598,825 Acquisitions 698,574 778,144 Dispositions, at cost (806,104) (667,166) Realized gain on sale (755,233) (241,621) Unrealized gain (loss) (506,148) 1,795,741 Fair value at balance sheet date $ 895,012 $ 2,263,923 8 Selected Notes to Consolidated Financial Statements For the Nine Months Ended September 30, 2011 and 2010 (unaudited) Expressed in U.S. Dollars The Company’s marketable equity securities are classified as available-for-sale and are recorded at quoted market value with gains and losses recorded within other comprehensive income until realized. As of September 30, 2011 and December 31, 2010 marketable securities had a cost basis of $938,478 and $1,046,009, respectively. Note 6. Financial Instruments The fair values as at September 30, 2011 and December 31, 2010 along with the carrying amounts shown on the consolidated balance sheets for each classification of financial instrument are as follows: September 30, 2011 December 31, 2010 Carrying Fair Carrying Fair Classification Amount Value Amount Value Cash and cash equivalents held for trading $62,449,366 $62,449,366 $58,186,478 $58,186,478 Marketable equity securities available for sale 895,012 895,012 2,263,923 2,263,923 A/P and accruals other financial liabilities 1,939,726 1,939,726 1,633,150 1,633,150 Accrued interest other financial liabilities 1,641,849 1,641,849 234,550 234,550 Convertible notes other financial liabilities 101,546,242 80,945,701 100,754,404 69,477,790 Fair value estimates for marketable securities are made at the balance sheet date by reference to recent market transactions. The convertible notes are not listed on an exchange but are traded on a limited basis in a grey market. Fair value estimates for convertible notes are based on an assessment of available market information. ASC 820 establishes a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value into three broad levels: Level 1 inputs are quoted prices in active markets for identical assets or liabilities, Level 2 inputs are inputs other than quoted prices included within Level 1 that are directly or indirectly observable for the asset or liability and Level 3 inputs are unobservable inputs for the asset or liability that reflect the entity’s own assumptions. Fair value September 30, 2011 Level 1 Level 2 Level 3 Cash and cash equivalents $62,449,366 $62,449,366 – – Marketable equity securities 895,012 895,012 – – Fair value December 31, 2010 Level 1 Level 2 Level 3 Cash and cash equivalents $58,186,478 $58,186,478 – – Marketable equity securities 2,263,923 2,263,923 – – The Company is exposed to various risks including credit risk, liquidity risk, currency risk and interest rate risk as described below: a) Credit risk is the risk that a counter party will fail to meet its obligations to the Company. The Company’s primary exposure to credit risk is through its cash and cash equivalents. The Company holds its cash in major Canadian and U.S. financial institutions. b) Liquidity risk is the risk that an entity will encounter difficulty in meeting its obligations associated with its financial liabilities. The Company has historically managed this risk by maintaining adequate cash balances through equity and debt offerings to meet its current and foreseeable obligations. The following table presents the Company’s payments due on accounts payable and accrued expenses and its undiscounted interest and principal payments due on its convertible notes if the notes were to reach their contractual maturity date of June 15, 2022. (See Note 12) 9 Selected Notes to Consolidated Financial Statements For the Nine Months Ended September 30, 2011 and 2010 (unaudited) Expressed in U.S. Dollars Payments due by Period Less than More Than Total 1 Year 1-3 Years 4-5 Years 5 Years A/P and accruals $ 1,939,726 $ 1,939,726 – – – Interest 61,921,145 5,629,195 $ 11,258,390 $ 11,258,390 $ 33,775,170 Principal 102,349,000 – – – 102,349,000 Total $ 166,209,871 $ 7,568,921 $ 11,258,390 $ 11,258,390 $ 136,124,170 c) The Company is subject to currency risk mainly due to its operations in Venezuela, which are limited. Transactions denominated in foreign currency are exposed to exchange rate fluctuations which have an impact on the statement of operations. The Company’s cash and other monetary assets and liabilities that are held in Venezuelan and Canadian currency are subject to fluctuations against the US dollar. A 10% weakening of those currencies against the US dollar would have increased (decreased) the Company’s net gain from the translation of foreign currency denominated financial instruments, for the nine months ended September 30, 2011 and 2010, by the amounts shown below. 2011 2010 Venezuelan Bolívar $ 46,562 $ (13,383) Canadian dollar 1,625 (2,481) Total $ 48,187 $ (15,864) The Company limits the amount of currency held in non-U.S dollar accounts, but does not actively use derivative instruments to limit its exposure to fluctuations in foreign currency rates. d) The Company is subject to the risk that changes in market interest rates will cause fluctuations in the fair values of its financial instruments. Cash and cash equivalents earn floating market rates of interest. Other current financial assets and liabilities are generally not exposed to this risk because of their immediate or short-term maturity. The interest rate on the Company’s convertible notes is fixed and therefore the interest payments are not subject to changes in market rates of interest. Note 7. Property, Plant and Equipment Accumulated Cost Depreciation Net September 30, 2011 United States Machinery and equipment $ 21,209,438 $ – $ 21,209,438 Furniture and office equipment 517,235 (457,038) 60,197 Leasehold improvements 41,190 (40,264)) 926 $ 21,767,863 $ (497,302) $ 21,270,561 Venezuela Buildings $ 397,146 $ (303,680) $ 93,466 Furniture and office equipment 480,751 (471,951) 8,800 Transportation equipment 164,482 (162,300) 2,182 Machinery and equipment 373,593 (288,427) 85,166 1,415,972 (1,226,358) 189,614 Total $ 23,183,835 $ (1,723,660) $ 21,460,175 Accumulated Cost Depreciation Net December 31, 2010 United States Machinery and equipment $ 28,071,469 $ – $ 28,071,469 Furniture and office equipment 506,339 (435,224) 71,115 Leasehold improvements 41,190 (38,874)) 2,316 $ 28,618,998 $ (474,098) $ 28,144,900 Venezuela Buildings $ 403,286 $ (285,696) $ 117,590 Furniture and office equipment 480,751 (462,208) 18,543 Transportation equipment 214,112 (201,196) 12,916 Machinery and equipment 497,808 (288,427) 209,381 1,595,957 (1,237,527) 358,430 Total $ 30,214,955 $ (1,711,625) $ 28,503,330 10 Selected Notes to Consolidated Financial Statements For the Nine Months Ended September 30, 2011 and 2010 (unaudited) Expressed in U.S. Dollars Machinery and equipment includes amounts paid for equipment previously intended for use on the Brisas project. During the third quarter of 2011, certain equipment with a carrying value of approximately $6.9 million was sold for $7.8 million and the Company recorded a gain on sale of $0.9 million. Equipment classified as assets held for sale at December 31, 2010 was sold during the first quarter of 2011 for $8.3 million and the Company recorded a gain on sale of $0.3 million. Note 8. KSOP Plan The KSOP Plan, adopted in 1990 for the benefit of employees, is comprised of two parts, (1) a salary reduction component, or 401(k), and (2) an employee share ownership component, or ESOP. Unallocated shares are recorded as a reduction to shareholders’ equity. Allocation of common shares or cash contributions to participants’ accounts, subject to certain limitations, is at the discretion of the Company’s board of directors. The fair market value of the shares when allocated is recorded in the statement of operations with a reduction of the KSOP debt account. The Company has not yet made any contribution for the 2011 Plan year. Cash contributions to eligible participants for the Plan years 2010 and 2009 were $175,174, and $57,292, respectively. As of September 30, 2011, 22,246 common shares remain unallocated to plan participants. 11 Selected Notes to Consolidated Financial Statements For the Nine Months Ended September 30, 2011 and 2010 (unaudited) Expressed in U.S. Dollars Note 9. Stock Based Compensation Equity Incentive Plans The Company has two equity incentive plans; the 1997 Equity Incentive Plan (last amended in March 2006 and last re-approved by the shareholders in June 2009, the “1997 Plan”) and the 2008 Venezuelan Equity Incentive Plan (approved by the shareholders in June 2008, the “Venezuelan Plan”). Pursuant to Toronto Stock Exchange rules the plans must be re-approved by Shareholders every three years. As of June 10, 2011, grants under the Venezuelan Plan are no longer allowed as the Plan remains in suspension until re-approved by Shareholders. Both plans permit the grants of stock options, stock appreciation rights and restricted stock, or any combination thereof, and each shall be 10% of the Company’s outstanding shares, from time to time. The grants are made for terms of up to ten years with vesting periods ranging from immediate to up to 3 years. Combined share option transactions for the nine months ended September 30, 2011 and 2010 are as follows: 2011 2010 Shares Weighted Average Exercise Price Shares Weighted Average Exercise Price Options outstanding at beginning of period 3,178,102 2.39 4,573,318 2.67 Options exercised (138,501) 0.93 (141,666) 0.29 Options expired (670,913) 4.44 (439,582) 4.59 Options forfeited (126,000) 1.82 (101,917) 2.83 Options granted 3,793,000 1.85 – – Options outstanding at end of period 6,035,688 1.87 3,890,153 2.54 Options exercisable at end of period 3,079,438 1.88 3,462,364 2.81 Options available for grant at end of period under 1997 plan 1,717,749 2,655,139 Options available for grant at end of period under Venezuelan plan 4,151,765 5,168,288 The following table relates to stock options at September 30, 2011: Outstanding Options Exercisable Options Exercise Price Range Number Weighted Average Exercise Price Aggregate Intrinsic Value Weighted Average Remaining Contractual Term (Years) Number Weighted Average Exercise Price Aggregate Intrinsic Value Weighted Average Remaining Contractual Term (Years) $0.29 - $0.29 1,079,188 $0.29 $2,244,711 2.18 1,079,188 $0.29 $2,244,711 2.18 $0.73 - $0.73 481,000 $0.73 788,840 2.46 481,000 $0.73 788,840 2.46 $1.82 - $1.82 2,675,000 $1.82 1,471,250 4.26 668,750 $1.82 367,813 4.26 $1.92 - $1.92 950,000 $1.92 427,500 9.69 - $3.95 - $4.61 423,000 $4.19 0.07 423,000 $4.19 0.07 $4.62 - $4.62 148,500 $4.62 0.22 148,500 $4.62 0.22 $5.07 - $5.36 279,000 $5.19 0.16 279,000 $5.19 0.16 $0.29 - $5.36 6,035,688 $1.87 $4,932,301 4.02 3,079,438 $1.88 $3,401,364 2.11 12 Selected Notes to Consolidated Financial Statements For the Nine Months Ended September 30, 2011 and 2010 (unaudited) Expressed in U.S. Dollars During the first quarter of 2011, the Company granted approximately 2.8 million options which generally vest over three years and in the second quarter of 2011, the Company issued 950,000 options which vest upon a settlement or an award related to the arbitration against Venezuela. For the nine months ended September 30, 2011 and 2010, new options totaling 3,793,000 and 0, respectively were granted. The Company recorded compensation expense during the nine months ended September 30, 2011 and 2010 of $2.3 million and $0.1 million, respectively, for stock options granted in 2011 and prior periods. Compensation expense for the nine months ended September 30, 2011 includes $1.5 million related to options vested in the first quarter 2011. The options granted in the second quarter had an estimated fair market value of $0.7 million at the date of grant, however the Company does not currently record an expense for these options and will only record an expense in the event it becomes probable the options will vest. As of September 30, 2011, compensation expense of $2.1 million related to unvested options remains to be recognized over the remaining vesting period. The weighted average grant date fair value of options granted in 2011 was calculated at $1.23 and the total fair value of options vested during 2011 was $1.0 million. The fair value of options granted in 2011 was determined using the Black-Scholes model based on the following assumptions: Weighted average risk free interest rate 1.63% Expected Term 4.0 years Expected volatility 97% Dividend yield nil Retention Units Plan In addition to the equity incentive plans, the Company also maintains the Gold Reserve Director and Employee Retention Plan. Units granted under the plan become fully vested and payable upon achievement of certain milestones related to the Brisas project or in the event of a change of control. The Company’s Board of Directors has evaluated modifying the vesting provisions of the units to more adequately reflect the current business objectives of the Company, but has not yet amended the terms of the units. Each unit granted to a participant entitles such person to receive a cash payment equal to the fair market value of one Gold Reserve Class A Common Share (1) on the date the unit was granted or (2) on the date any such participant becomes entitled to payment, whichever is greater. As of September 30, 2011 an aggregate of 1,457,500 unvested units have been granted to directors and executive officers of the Company and 315,000 units have been granted to other employees. The Company currently does not accrue a liability for these units as events required for vesting of the units have not yet occurred. The value of these units, based on the grant date value of the Class A shares, was approximately $7.7 million. Note 10. Related Party Transactions: MGC Ventures . The Chief Executive Officer, President, Vice President-Finance and Vice President-Administration of the Company are also officers and/or directors and shareholders of MGC Ventures. On December 15, 2010, the non-affiliated shareholders of MGC Ventures approved the redemption of all of the shares of MGC Ventures common stock held by Gold Reserve. Gold Reserve received $0.9 million and recorded a gain on sale of subsidiary of $0.2 million. Prior to the redemption, Gold Reserve owned 12,062,953 common shares of MGC Ventures which represented 44% of its outstanding shares. MGC Ventures owned 258,083 common shares of the Company at September 30, 2011 and December 31, 2010. During the last three years, the Company sublet a portion of its office space to MGC Ventures for $6,000 per year. Great Basin . The Chief Executive Officer, President, Vice President-Finance and Vice President-Administration of the Company are also officers and/or directors and shareholders of Great Basin. On December 15, 2010, the non-affiliated shareholders of Great Basin approved the redemption of all of the shares of Great Basin common stock held by Gold Reserve. Gold Reserve received $1.2 million and recorded a gain on sale of subsidiary of $0.3 million. Prior to the redemption, Gold Reserve owned 15,661,595 common shares of Great Basin which represented 45% of its outstanding shares. Great Basin owned 491,192 common shares of the Company at September 30, 2011 and December 31, 2010. During the last three years, the Company sublet a portion of its office space to Great Basin for $6,000 per year. 13 Selected Notes to Consolidated Financial Statements For the Nine Months Ended September 30, 2011 and 2010 (unaudited) Expressed in U.S. Dollars Note 11. Shareholder Rights Plan The Company instituted a shareholder rights plan (the “Rights Plan”) in 1999. Since the original approval by the shareholders, the Rights Plan and the Rights Plan agreement have been amended and continued from time to time. In June 2009, the shareholders approved certain amendments to the Rights Plan including continuing the Shareholder Rights Plan until June 30, 2012. The Rights Plan is designed to give the Board of Director’s time to consider alternatives, allow shareholders time to properly assess the merits of a bid and insure they receive full and fair value for their common shares. One right is issued in respect of each outstanding share. The rights become exercisable only when a person, including any party related to it or acting jointly with it, acquires or announces its intention to acquire 20% or more of the Company’s outstanding shares without complying with the “permitted bid” provisions of the Rights Plan. Each right would, on exercise, entitle the holder, other than the acquiring person and related persons, to purchase Class A common shares of the Company at a 50% discount to the market price at the time. Note 12. Convertible Notes In May 2007, the Company issued $103,500,000 aggregate principal amount of 5.50% Senior subordinated convertible notes. The notes are unsecured, bear interest at a rate of 5.50% annually, pay interest semi-annually in arrears and are due on June 15, 2022. The notes are convertible into Class A common shares of the Company at the initial conversion rate, subject to adjustment, of 132.626 shares per $1,000 principal amount (equivalent to a conversion price of $7.54). Upon conversion, the Company will have the option, unless there has occurred and is then continuing an event of default under the Company’s indenture, to deliver common shares, cash or a combination of common shares and cash for the notes surrendered. The note holders have the option to require the Company to repurchase the notes on June 15, 2012, at a price equal to 100% of the principal amount of the notes plus accrued but unpaid interest. The Company has the ability to satisfy its obligation to pay the repurchase price, in whole or in part, by delivering Common Shares which would not result in the use of current assets or the creation of new current liabilities to satisfy its potential requirement to pay the repurchase price. As a result, the notes are classified as non-current. In the event of a change of control of the Company, the Company may be required to offer to repurchase the notes at a purchase price equal to 100% of the principal amount of the notes plus accrued but unpaid interest unless there has occurred and is continuing certain events of default under the Company’s indenture. At any time on or after June 16, 2010, and until June 15, 2012, the Company may redeem the notes, in whole or in part, for cash at a redemption price equal to 100% of the principal amount being redeemed plus accrued and unpaid interest if the closing sale price of the Common Shares is equal to or greater than 150% of the conversion price then in effect and the closing price for the Company’s Common Shares has remained above that price for at least twenty trading days in the period of thirty trading days preceding the Company’s notice of redemption. Beginning on June 16, 2012, the Company may, at its option, redeem all or part of the notes for cash at a redemption price equal to 100% of the principal amount being redeemed plus accrued and unpaid interest. The covenants contained in the 5.50% convertible note indenture are limited to administrative issues such as payments of interest, maintenance of office or agency location, delivery of reports and other related issues. Likewise, events of default are defined as failure to pay interest and principal amounts when due, default in the performance of covenants, failure to convert notes upon holder’s exercise of conversion rights and similar provisions or the Company’s failure to give notice of a fundamental change which is generally defined as events related to a change of control in the Company. The notes are classified as a liability and were initially recorded at face value, net of issuance costs. The notes are accreted to face value using the effective interest rate method over the expected life of the notes, currently estimated to be June 15, 2012, with the resulting charge recorded as interest expense. The Company capitalized interest and accretion on the notes until October, 2009, when the Company filed for arbitration and when Venezuela seized the Brisas Project. Thereafter all interest and accretion on the notes has been expensed. As of September 30, 2011, convertible notes with a face value of $1,151,000 had been settled in cash or repurchased by the Company at a total cost of approximately $451,000. 14