Delaware Court: Seating Board Designee Subject to Reasonable Conditions Not a Breach

Steven Epstein is a partner and Co-Head of the Mergers & Acquisitions practice at Fried, Frank, Harris, Shriver & Jacobson LLP. This post is based on a Fried Frank publication authored by Mr. Epstein, Robert C. Schwenkel, John E. Sorkin, and Gail Weinstein. This post is part of the Delaware law series, which is cosponsored by the Forum and Corporation Service Company; links to other posts in the series are available here.

In Partners Healthcare Solutions Holdings, L.P. v. Universal American Corp. (June 17, 2015), the Delaware Chancery Court granted summary judgment to defendant Universal American Corp. (“UAM”), rejecting the contentions of one of UAM’s largest stockholders, Partners Healthcare Solutions Holdings (“Partners”), that UAM had breached a board seat agreement by imposing conditions on the seating of Partners’ designee to the UAM board that were not provided for in the agreement. Partners, a subsidiary of a private equity firm, acquired its stake in UAM through, and the board seat agreement had been entered into in connection with, UAM’s acquisition of a subsidiary of Partners (the “Portfolio Company”). The dispute relating to the seating of Partners’ board designee arose at the same time that UAM and Partners were involved in a separate fraud litigation arising from the Portfolio Company’s performance after the merger.

Key Points

  • Unusual facts; no change in the basic rights of stockholders designating directors under board seat agreements. The facts in UAM were not typical in that the ongoing simultaneous fraud litigation between the parties created an unusual conflict of interest and confidentiality issue relating to the board designee (and may also have created animus that prevented them from resolving the board seat issue without litigation). Notwithstanding the court’s rejection of the plaintiff stockholder’s claims in UAM, the decision does not alter the basic rights of private equity firms or other stockholders under board seat agreements to have their board designees seated, to recover damages incurred if the company breaches the agreement, or to be reimbursed for legal fees to the extent the agreement so provides.
  • Board may impose conflict of interest and confidentiality conditions not specified in a board seat agreement if required by its fiduciary duties. The decision confirms, however, that a company will not be in breach of a board seat agreement when it agrees to seat a stockholder’s designee but the board, in the exercise of its fiduciary duties, imposes reasonable conditions relating to conflicts of interest and confidentiality of company information that were not provided for in the board seat agreement.
  • Other reasonable conditions not specified in a board seat agreement may also be upheld. Depending on the circumstances, where a board seat agreement is silent with respect to certain conditions, we expect that a court also would likely uphold a board’s imposing reasonable conditions (i) that are applicable to all directors or (ii) for which the company has a strong legitimate need and which do not have a disabling or significant negative effect on the stockholder’s designation rights.


UAM, which was a public company, entered into a merger agreement in 2012 with the Portfolio Company (a subsidiary of Partners), through which Partners became one of the largest stockholders of UAM. Partners and its affiliates (together) were granted the contractual right to designate one director of UAM so long as they continued to hold at least a 5% equity stake. The only condition set forth in the board seat agreement was that the designee be “independent” under applicable stock exchange rules. The designee was seated on the board promptly after the merger. Almost immediately after the merger, Partners’ performance suffered a significant decline and UAM sued Partners and its representatives (including the board designee) for fraud.

When the board designee resigned months later, Partners designated a successor (as it was contractually entitled to do). UAM was willing to seat the successor designee, but subject to the conditions that the designee (i) forego being represented in his capacity as a director by the same law firms (the “Law Firms”) that were representing Partners against UAM in the fraud litigation and (ii) sign a confidentiality agreement providing that he would not share confidential company information with the Law Firms.

Partners sued for: specific performance—the seating of its designee without conditions; damages—based on an alleged loss in value of its equity interest due to actions taken by the UAM board while Partners was not involved on the board because of UAM’s refusal to seat its designee; and reimbursement of legal costs—as provided for in the board seat agreement in the event of a breach of the agreement. The specific performance claim was ultimately settled by the parties, with both agreeing that the designee would be seated subject to (i) his signing a confidentiality agreement and (ii) the Law Firms creating ethical walls to segregate the lawyers representing the director designee and the lawyers involved in the fraud litigation. Partners then pursued the damages claim and the recovery of legal counsel fees. The court held that UAM had not breached the board seat agreement. Therefore, no damages were awarded and the recovery of legal fees provision was inapplicable.


No breach of the board seat agreement. The court found that UAM had not breached the board seat agreement when the board imposed conditions “in a faithful exercise of its fiduciary duties, recogniz[ing] a conflict in the Designee engaging as counsel, in his capacity as a director and on behalf of UAM, the same counsel that was adverse to UAM in the fraud litigation.” The court concluded: “UAM did not refuse to seat [the designee], but instead agreed to seat him once the problem of conflicted representation was solved. That cannot be said to be a breach of the board seat agreement.” The court noted that, in any event, the designee, as a director of UAM, could not have shared confidential company information with the Law Firms without breaching his fiduciary duties.

Factual context was not typical—but it appears the result would have been the same in any event. We note that this was not a classic breach of a board seat agreement case. First, the board seat agreement dispute primarily related to confidentiality and legal representation issues that would not have existed but for the ongoing fraud litigation between the parties. Second, the parties had already settled the primary claim, with the stockholder having achieved its objective of having its designee seated on the board—based on a solution that the court characterized as having been an “obvious” path to settlement. Third, in previous proceedings, the court had already indicated its view that, even if it found the company had breached the agreement, the damages claim—which was based on an alleged loss of value in the shareholder’s equity interest because it did not have a designee on the board for several months—did not appear to have a strong foundation. Thus, the real stakes involved in the case were only the legal counsel fees. It appears that the parties’ animosity relating to the fraud litigation may have been the impetus for this litigation being continued after the board designee had been seated pursuant to the settlement. Notwithstanding the unusual context, we expect that the court would have applied the same basic principles in any event. Notably, however, the substance of the dispute arose due to the separate fraud litigation between the parties.

Damages claim for failure to seat board designee. During the period between the resignation of Partners’ initial designee to the board and the seating of the successor designee pursuant to the parties’ settlement, the UAM board repurchased $36 million of stock from another stockholder. Partners’ claim for damages was based on its alleged loss from not having been given a right to participate in this repurchase. The court noted that, during the time Partners’ initial designee had been on the board, the board had approved the repurchase of up to $40 million of stock, subject to future approval of specific terms, and, allegedly, the board had discussed that any “meaningful shareholder” would be given the right to participate by selling shares as well. (Presumably, Partners believed that its designee, if he had been on the board at the time, would have ensured that Partners had been given the right to participate.) The court, noting that the repurchase was at a price that was at a discount to the market price, characterized the damages claim as “quixotic”.

Practice Points

Litigation over board seat agreements is rare. In our experience, parties to board seat agreements usually avoid disputes by specifying in the agreement the conditions that will apply to seating the designee and, in any event, usually can resolve issues that arise under these agreements without resorting to litigation. The court was critical of both parties in UAM for not having earlier implemented the “obvious” solution to the conflict of interest and confidentiality issue that they ultimately agreed to and that had been “in front of their noses” all the time (i.e., the Law Firms establishing ethical walls).

Conditions to seating a board designee. In each case, the parties should consider whether there are circumstances or concerns that necessitate specific provisions in the board seat agreement (or confidentiality agreement) to ensure that the parties’ expectations are met. UAM confirms that, where the agreement is silent, a board that is willing to seat a stockholder’s designee should be able to impose reasonable conditions relating to resolution of conflicts of interest and protection of confidential information. We expect that, depending on the circumstances, a court likely would uphold the imposition of other reasonable conditions as well. What is reasonable will be evaluated by a court based on the facts and circumstances. Where, as in UAM, the court’s view is that a board’s fiduciary duties require it to impose certain conditions, those conditions almost certainly will be upheld. Other conditions that probably would be deemed to be reasonable would be those that (i) are applied to all directors or (ii) have a strong legitimate purpose and do not significantly negatively affect the stockholder’s right to designate a director. Companies should consider whether to specify these or other conditions. Stockholders should consider whether to specifically seek to exclude the application of certain conditions.

Remedies for breach of board seat agreement. As noted, in UAM, the court indicated that, even if UAM had breached the board seat agreement, the court likely would have rejected the stockholder’s claim for damages that was based on an alleged loss of value of the stockholder’s stake, given that the repurchase of shares that the stockholder was deprived of participating in had been effected at a price that was a discount to the market price. The extent to which a court may view a claim for damages based on a board’s actions during the period that a company, in breach of a board seat agreement, does not seat the stockholder’s designee will depend on the facts and circumstances of the particular case—including the extent to which the alleged loss can be shown to be related to the absence of the stockholder’s designee. A stockholder may wish to consider seeking to include in a board seat agreement specified remedies for a breach by the company. These could include, for example, recovery of legal fees, liquidated damages, the right to designate additional designees, and/or an expansion of the circumstances under which the stockholder will continue to have the right to designate.

Waiver of conflict of interest provision and “Affiliate” definition: More precise drafting would have made the parties’ expectations clear—but still would not have eliminated the board’s concerns arising from its fiduciary duties. In UAM, Partners had argued that, in the merger agreement, UAM had waived any conflict of interest issue relating to the Law Firms’ representation of Partners or its Affiliates, including Partners’ board designee. The merger agreement waiver provision, by its terms, waived any conflict of interest of the Law Firms in representing Partners and its Affiliates, on the one hand, and UAM and its Affiliates, on the other hand, with respect to issues related to the merger agreement. The court found that the waiver provision did not apply to the Law Firms’ representation of Partners’ board designee. The court concluded that the merger agreement provision waived a conflict of interest in disputes between Partners and UAM—but that it did not apply “to sanction a UAM director’s representation by counsel where that counsel also represents Partners in a dispute with UAM.” The court also concluded that, in any event, Partners’ designee was not an “Affiliate” of Partners under the (standard) definition included in the merger agreement—because the designee, by virtue of his fiduciary duties to UAM and its stockholders, was not under Partners’ “control”. We note that, in this case, even if the drafting of the conflict of interest waiver had clearly included the Law Firms’ representation of Partners’ board designee in his capacity as a director, and even if the drafting of the definition of “Affiliate” had clearly included the board designee as an Affiliate of Partners, the court likely still would have upheld the conditions imposed by UAM, as the court viewed those conditions as arising from “the Board’s fiduciary interest in protecting confidential information from conflicted counsel.”

Issues also arise after a stockholder designee is seated. While UAM involved issues relating to the seating of a stockholder’s designee to a company’s board, it should be noted that complex legal and practical issues often arise once a stockholder’s designee is seated (many of which may also arise with respect to directors who are not designees under a board seat agreement)— including, possibly, conflict of interest, confidentiality, corporate opportunity, independence, duty of loyalty, regulatory (such as Section 16(b) and Reg. FD), antitrust, insider trading, and other issues. While it is well established that a stockholder’s designee to a board owes his duties to the company and its stockholders, not to the stockholder who designated him, application of the general principle is not necessarily uncomplicated. These issues are generally less difficult when the designee is not related to or affiliated with the designating stockholder.

Governing law of exhibits to merger agreement. A governing law provision in an agreement attached as an exhibit to a merger agreement takes precedence over a governing law provision in the merger agreement that by its terms applies to the merger agreement and all of the exhibits and schedules thereto. In UAM, the merger agreement provided that the merger agreement and all of the exhibits and schedules thereto would be governed by Delaware law. The board seat agreement provided that it would be governed by New York law. The plaintiffs argued that—since the board seat agreement was an exhibit to, and its execution was a condition to closing of, the merger agreement—the board seat agreement was governed by Delaware law. The court disagreed, stating that “the explicit invocation of New York law in the Board Seat Agreement itself takes precedence.”

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