On July 31, 2012, the U.S. District Court for the Central District of California dismissed, without prejudice, a shareholder derivative suit against American Apparel and its individual directors which alleged the directors breached their fiduciary duty by failing to institute controls to ensure American Apparel's compliance with immigration laws and misrepresented its compliance with those laws in filings with the Securities and Exchange Commission (SEC).


As you may recall, in 2009, after a 17-month investigation by Immigrations and Customs Enforcement (ICE), about 1,800 employees or a quarter of American Apparel's workforce were terminated due to their failure to have proper work authorization. The terminations caused the company's workforce to become undersized, which caused a tremendous loss in production. Due to this, American Apparel's stock price significantly dropped. Thus, the shareholders sued.


The District Court dismissed the complaint on the grounds that it failed to plead the requisite knowledge and bad faith on the part of the individual directors necessary to maintain a shareholder derivative suit under Delaware law.  The Court, in dismissing the complaint, stated the plaintiffs were unable to establish the very difficult standards necessary to maintain a derivative action. Under Delaware law, where American Apparel is incorporated, conduct amounting to gross negligence is insufficient to support a claim of bad faith.