The Law on Overturning Arbitration Awards for Partiality Is Confused (ABA)

Spring 2009 - Section of Litigation

By: Ann Ryan Robertson and Lorraine M. Brennan

After the completion of a lengthy, expensive, and hard fought arbitration, your client lost. You have since learned that the arbitrator, a prominent lawyer at a big law firm, failed to disclose that his former firm, five years earlier, had represented the winning party in a protracted litigation. The litigation was handled by another office in the firm, and while the arbitrator had not been personally involved in the case and never represented the winning party, his former firm had received significant income from the winning party and continued to advise it on unrelated matters. Will a motion to vacate the award pursuant to Section 10(a)(2) of the Federal Arbitration Act (FAA) based on the arbitrator’s “evident partiality” be successful?

Unfortunately, the answer is “It depends.”

The U.S. Supreme Court has not addressed the issue of evident partiality in more than 40 years. The confusing relationship between the majority and concurring opinions in that case has resulted in decades of U.S. Circuit Court interpretations that at times radically alter the factors to be considered for determining evident partiality under the FAA.

Plurality-Plus Uncertainty

This uncertainty finds its genesis in the U.S. Supreme Court’s plurality-plus decision, Commonwealth Coatings Corp. v. Continental Casualty Co.1 Justice Black, writing for the majority and finding that vacatur was warranted due to the arbitrator’s failure to disclose a recently terminated business relationship with one of the parties, stated:

It is true that arbitrators cannot sever all their ties with the business world, since they are not expected to get all their income from their work deciding cases, but we should, if anything, be even more scrupulous to safeguard the impartiality of arbitrators than judges, since the former have completely free rein to decide the law as well as the facts and are not subject to appellate review. We can perceive no way in which the effectiveness of the arbitration process will be hampered by the simple requirement that arbitrators disclose to the parties any dealings that might create an impression of possible bias.2

Justice Black concluded that arbitrators not only must be unbiased, but also “must avoid even the appearance of bias.”3

Justice White, in a concurring opinion joined by Justice Marshall, asserted that arbitrators “are not automatically disqualified by a business relationship with the parties before them if both parties are informed of the relationship in advance, or if they are unaware of the facts but the relationship is trivial.”4 Justice White recognized the balance between expertise of arbitrators in their respective business fields and the inherent potential for conflicts that may arise. “He [the arbitrator] cannot be expected to provide the parties with his complete and unexpurgated business biography” but arbitrators should “err on the side of disclosure.”5

The concurrence has drawn a great deal of commentary, as the vote of one of the concurring Justices was required for a majority opinion. Some circuits view Justice White’s concurrence as irreconcilable with Justice Black’s opinion, thereby relegating Justice Black’s opinion to dicta, and have focused instead on the language of Justice White’s concurring opinion.

This focus has led to the development of various standards in the circuit courts, and the lack of a uniform interpretation of the meaning of “evident partiality” under 9 U.S.C. 10(a)(2).

The Varying Standards of “Evident Partiality”

This lack of uniform interpretation of the meaning of “evident partiality” is perhaps best illustrated by the 2007 Fifth Circuit decision in Positive Software Solutions, Inc. v. New Century Mortgage Corp.6 In Positive Software, the Fifth Circuit, using Judge Black’s “appearance of bias” standard, initially vacated the award due to the arbitrator’s failure to disclose that seven years before, he and other members of his firm had represented Intel in litigation involving seven law firms, six lawsuits, and 34 lawyers. The lawyer representing New Century in the Positive Software arbitration had also represented Intel. The evidence indicated that although their names appeared together on pleadings, the arbitrator and New together in any meetings, telephone calls, hearings, depositions, or trials.7

On rehearing en banc, the Fifth Circuit, focusing on Justice White’s concurrence, held that the award should not be vacated and established the “reasonable impression of bias” standard: The resulting standard is that in nondisclosure cases, an award may not be vacated because of a trivial or insubstantial prior relationship between the arbitrator and the parties to the proceeding. The “reasonable impression of bias” standard is thus interpreted practically rather than with utmost rigor.8

In Schmitz v. Zilveti,9 the Ninth Circuit adopted the “reasonable impression of partiality” test, which at least facially appears to be in accord with the Fifth Circuit’s “reasonable impression of bias” standard.10 In Schmitz, the arbitrator failed to disclose that his law firm represented the corporate parent of one of the parties in at least 19 cases during a 35-year period, with the most recent case ending approximately 21 months before the arbitration was submitted. The court found that although an arbitrator’s lack of knowledge may prohibit actual bias, it does not always prohibit a reasonable  impression of partiality. In this instance, while the arbitrator did not have actual knowledge, the court held he had constructive knowledge.11

The court went so far as to note that: an arbitrator may have a duty to investigate independent of its Commonwealth Coatings duty to disclose. A violation of this independent duty to investigate may result in a failure to disclose that creates a reasonable impression of partiality under Commonwealth Coatings.12

In contrast, the First,13 Second,14 Fourth,15 Sixth,16 and Eleventh17 Circuit Courts have all adopted some variant of the “reasonable-person” standard to determine evident partiality, with the Fourth Circuit articulating a four-part test that might be best described as the reasonable person standard with teeth. The Fourth Circuit’s factors are (1) the extent and character of the personal interest, pecuniary or otherwise, of the arbitrator in the proceeding; (2) the directness of the relationship between the arbitrator and the party he or she is alleged to favor; (3) the connection of that relationship to the arbitration; and (4) the proximity in time between the relationship and the arbitration proceeding.

A party is not required to prove an arbitrator had improper motives in failing to disclose but must present facts that objectively demonstrate such a degree of partiality that a reasonable person could assume improper motives.18

In the recent case of Applied Industrial Materials, Corp. v. Ovalar Makine Ticaret Ve Sanayi, A.S.,19 the Second Circuit refined its reasonable person standard where an arbitrator failed to disclose that he had erected a “Chinese Wall” in an effort to avoid learning information that might disqualify him from serving as an arbitrator. Finding that the award should be vacated, the Second Circuit stated:

[A]rbitrators must take steps to ensure that the parties are not misled into believing that no nontrivial conflict exists. It therefore follows that where an arbitrator has reason to believe that a nontrivial conflict of interest might exist, he must (1) investigate the conflict (which may reveal information that must be disclosed under Commonwealth Coatings) or (2) disclose his reasons for believing there might be a conflict and his intention not to investigate.

We emphasize that we are not creating a freestanding duty to investigate. The mere failure to investigate is not, by itself, sufficient to vacate an arbitration award. But, when an arbitrator knows of a potential conflict, a failure to either investigate or disclose an intention not to investigate is indicative of evident partiality.20

The Second Circuit further held that a “reasonable person looking at an arbitrator’s decision not to investigate and his concomitant failure to inform the parties of the ‘Chinese Wall,’ would conclude that evident partiality existed.”21

Other circuits, while not necessarily couching their evident partiality analysis in terms of a reasonable person, have nevertheless focused on elements that the reasonable person standard would typically embrace. For instance, in the Tenth Circuit, evidence of bias or interest of an arbitrator must be direct and definite and capable of demonstration.22
 
Similarly, Judge Posner, in the Seventh Circuit’s decision of Merit Insurance Co. v. Leatherby Insurance Co.,23 found:

. . . the test in this case is not whether the relationship was trivial; it is whether, having due regard for the different expectations regarding impartiality that parties bring to arbitration than to litigation, the relationship between Clifford and Stern was so intimate—personally, socially, professionally, or financially—as to cast serious doubt on Clifford’s impartiality.24

In finding the district court erred in vacating the award, Judge Posner observed:

To uphold the district court’s vacation of the arbitration award in the absence of actual or probable partiality or corruption would open a new and, we fear, an interminable chapter in the efforts of people who have chosen arbitration and been disappointed in their choice to get the courts—to which they could have turned in the first instance for resolution of their disputes—to undo the results of their preferred method of dispute resolution.25

Two circuits have not yet articulated an evident partiality standard. The Eighth Circuit, in the case of Olson v. Merrill Lynch, Pierce, Fenner & Smith,26 after acknowledging that “there is some uncertainty among the courts of appeals about the holding of Commonwealth Coatings,” concluded that it need not resolve the uncertainty because the arbitrator was required to disclose his business relationship under both the majority and concurrence of Commonwealth Coatings. In In Montez v. Prudential Securities, Inc.,27 the Eighth Circuit continued to hedge its bet as to what standard should apply by agreeing with the district court’s conclusion “that, under any of the standards articulated by courts in an attempt to interpret the meaning of ‘evident partiality,’ ‘the Court would not find evident partiality in this case.’”28

The Third Circuit has not established a standard.29 The Eastern District of Pennsylvania, however, using the “appearance of bias” standard, vacated an arbitration award when two arbitrators, who were chosen from a list provided by the American Arbitration Association, failed to disclose they had been appointed as arbitrators in a different arbitration involving one of the parties.30 The district court went so far as to opine:

Regardless of whether a court considers the actual bias standard to be legitimate (this Court does not), such a standard does not apply in cases, such as this one, where (1) the parties have some influence in selecting their arbitrators, and (2) an arbitrator failed to disclose information that may create a reasonable impression of the arbitrator’s partiality.31

In Morelite, the neutral arbitrator’s father was the vice president of the international union whose local chapter was a party to the arbitration. While observing that the “appearance of bias” standard articulated in Commonwealth Coatings was too high, and the “proof of bias” standard was too low, the court instead established a “reasonable person” standard, holding that “’evident partiality’ . . . will be found where a reasonable person would have to conclude that an arbitrator was partial to one party to the arbitration.” Noting its strong feelings about the nature of the father-son relationship and that a reasonable person would conclude it provides strong evidence of partiality by the arbitrator, the court instructed the lower court to vacate the award.

Conclusion

There is no consensus among the circuits regarding what information an arbitrator must disclose, and when nondisclosure rises to the level of “evident partiality.” Unfortunately, until the U.S. Supreme Court breaks its almost 40 years of silence on this issue, it is important that parties in arbitration understand that any challenge to an arbitrator for evident partiality may be viewed differently depending on the reviewing court’s venue.


Ann Ryan Robertson is an attorney with Ajamie LLP, a litigation/ arbitration boutique located in Houston, Texas.

Lorraine M. Brennan is Senior Vice President, Programs and International for The International Institute for Conflict Prevention and Resolution in New York City.

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