A Delaware court recently allowed a stockholder’s derivative complaint to proceed where the board of directors allegedly breached their duty of loyalty by knowingly allowing the company to violate a federal regulation. In upholding the complaint, the court examined the company’s prior SEC disclosures describing its business practices to conclude they violated the “plain language” of the regulation. More importantly, the court inferred that the directors knew of the noncompliance, despite the absence of any “red flags” to put the board on notice, because “the Regulation itself is so clear on its face.” The court acknowledged the unusual factual allegations in the complaint, but the ruling nevertheless illustrates one of many potential pitfalls arising from compliance failures, especially in regulated industries.

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