Page 99 - Bankruptcy Volume 1

Treatment of Claims

The plan must designate classes for all claims (other than certain postpetition administrative claims)
against and interests in the debtor. Section 1122 of the Bankruptcy Code requires that a claim or interest
can be placed in a class only if it is substantially similar to the other claims or interests in that class. All
creditors or equity holders in the same class must be treated the same (or must have the opportunity to
receive the same treatment), but separate classes may be treated differently. The Bankruptcy Code does
not require that all substantially similar claims be placed in the same class. However, courts have gener-
ally required that the plan proponent have a legitimate purpose for the separate classification of similar
claims.

Deciding how to group claims becomes an important strategic decision if the debtor-in-possession has
limited support for its plan. To a certain degree, the Bankruptcy Code allows the manipulation of classes
as long as the claims grouped together are substantially similar. It is important to note that the substan-
tial similarity applies to claims and not creditors. Also, the court disapproves of gerrymandered classes
for the sole purpose of obtaining a consenting impaired class. Some courts frown on only a slight im-
pairment of a favored class, sometimes referred to as artificial impairment. Finally, creditors cannot be
classified in any way that may unfairly discriminate among classes. An example is grouping long-term
suppliers that have an equity position in the debtor and thus have a strong interest in seeing the reorgani-
zation succeed, potentially to the detriment of other creditors who are pushing for liquidation.

Unsecured Claims

In many cases, all unsecured claims, including claims arising from the rejection of executory contracts
or unexpired leases, will be placed in the same class except for administrative expenses. They may,
however, be divided into different classes if separate classification is justified. For example, debtors may
wish to separately classify the claims of so-called working capital or trade creditors that are essential to
the debtors’ operations and treat such claims more favorably than either (1) noteholder claims which the
debtor wishes to restructure or (2) claims for rejection damages held by creditors that will provide no
value to the reorganized debtor.

Because class treatment varies under the terms of a plan, interested parties often contest the claims clas-
sification process. In the XYZ Company example, certain subordinated debtholders may attempt place-
ment in the same class as the trade creditors (who will be paid immediately under the terms of the plan
as opposed to over time). On the surface, such a contention may seem unreasonable — the characteris-
tics of trade creditors certainly differ from those of subordinated debtholders. But because both claims
are unsecured and have the same rights on liquidation, the debtholder may make a case to place both
kinds of claims in the same class and receive the same treatment.

In addition, a separate class of unsecured claims may be established consisting of claims that are below
an amount the court approves as reasonable and necessary for administrative convenience, which is gen-
erally referred to as the convenience class. This allows the debtor to dispense with many small creditors
quickly in order to minimize the number of creditors with whom it must deal on an ongoing basis (for
example, for whom it must maintain accurate addresses, to whom it must make multiple distributions,
and so on). Creditors in the convenience class often are paid 100% of their claim on the effective date of
the plan. Generally, creditors whose claim amount exceeds the threshold to qualify for the convenience
class have the option to reduce their total claim amount in order to elect into this class. Creditors may se-
lect this option if they prefer the terms for payment of the claims in the convenience class. For example,
claims of less than $1,000, or those creditors who will reduce their claim to $1,000, may be placed in
one class and the claimants receive the lesser of $1,000 or the amount of their claim. A creditor with a

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