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self-study / Alternative Dispute Resolution

Mar. 3, 2022

Handling the hot potato of ‘manifest disregard of the law’

Fred Bennett

Email: fredgbennettADR@outlook.com

Fred is an experienced international and domestic arbitrator and mediator. He is a fellow with the College of Commercial Arbitrators, member of the National Academy of Distinguished Neutrals and the ICC Commission, and former head of arbitration at Quinn Emanuel and Gibson Dunn.

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ARBITRATION INSIGHTS

It seems to have first shown its face in 1953 and, as the great poet said, "not with a bang, but a whimper." In Wilco v. Swan, the 2nd U.S. Circuit Court of Appeals was faced with a question that really had nothing to do with "manifest disregard of the law" as grounds for vacating an arbitration award. The issue was whether an arbitration clause, which encompassed disputes under the Securities Exchange Act of 1934, was an effective waiver of a provision under the act that held that private agreements for resolution of Exchange Act claims were void. The court held that it was, but also noted in passing that its scope of review was limited, in contrast to a situation where the arbitrator may have "manifestly disregarded the law." No definition or any further comment on "manifest disregard of law" was made.

Manifest disregard surfaced in a similar way in Todd Shipyards Corp. v. Cunard Line Ltd. (9th Cir. 1991). The arbitration panel was faced with a breach-of-contract claim for a repair and refit of a cruise ship. The panel held that the contract had been breached by the respondent in a number of ways, including the failure to provide plans and specifications, specific materials, and sufficient insulation instructions. On appeal, the respondent claimed that the panel had made an egregious error at law, which the 9th Circuit rejected, noting that an arbitration award should not be set aside under the Federal Arbitration Act (Section 10) except for "manifest disregard of the law." No further comment.

Not until 1998 -- thanks to an arbitrator going temporarily insane in deciding an age discrimination case -- did the circuit courts handle a case that was actually decided based on manifest disregard of the law. In Halligan v. Piper Jaffray (2d Cir. 1998), the 2nd Circuit was faced with an arbitrator who had ruled against a claimant despite a mountain of unrefuted evidence proving age discrimination. The court held that by ignoring the burden-of-proof requirement and giving no explanation or rationale for the bizarre award, the arbitrator had manifestly disregarded the law. The court explained that manifest disregard is proven by showing that (1) the arbitrators knew of a governing legal principle for the case yet refused to apply it or ignored it altogether; and (2) the law ignored was well-defined, explicit and clearly applicable to the case. The arbitrator's utter disregard of the burden-of-proof principle met the standard. (The court also explained that the lack of a reasoned award was not sufficient in itself to show manifest disregard, but was a factor to consider in emphasizing the inexplicable actions of the arbitrator.) Halligan thus showed that manifest disregard of law was alive and well as a ground for vacatur under the FAA.

But in the same year that Halligan was decided, the U.S. Supreme Court, in the landmark case of Hall Street Associates, L.L.C. v. Mattel, Inc., provided an important insight on manifest disregard that has been the subject of debate ever since. Like cases before it, Hall Street had nothing to do with manifest disregard. It dealt with whether the parties had validly changed, by private agreement, the standard for vacating an award set forth in Section 10 of the FAA. The court held that grounds for vacatur under that section were exclusive, thereby invalidating any attempts by the parties to create their own appellate rules. In doing so, the court saw fit to explain that manifest disregard of the law was encompassed by recognized grounds for vacatur under Section 10, more particularly where the arbitrators had "exceeded their power" or were guilty of "misconduct."

Of course, when you're the U.S. Supreme Court, any statement in an opinion can draw attention (don't you wish the same were true for all of your opinions?) and the court's suggestion that manifest disregard may have been swallowed up by the express vacatur grounds in FAA Section 10 has divided the circuits around the country. The 5th, 8th and 11th Circuits have interpreted Hall Street as saying that manifest disregard is not an independent ground for vacatur under the FAA, whereas the 2nd, 4th and 9th Circuits have interpreted Hall Street as affirming manifest disregard as a ground for vacatur in and of itself.

The debate goes on. In the meantime, California state law has taken its own direction. In Cable Connection v. DirecTV, decided in 2008, the California Supreme Court addressed a similar issue: whether the parties could structure their arbitration agreement to allow for review of legal error by the court, contrary to the limited vacatur provisions of the California Arbitration Act. The court began its analysis by two select quotes from Hall Street: (1) that the FAA was "not the only way into court for parties wanting review of arbitration awards: they may contemplate enforcement under state statutory or common law, for example, where judicial review of different scope is arguable"; and (2) that Hall Street does not "exclude more searching review based on authority outside the [FAA] statute." The California court then used this language as a platform for holding that, under California law, the parties were free to agree upon different standards for the appeal of an arbitration award in their arbitration agreement and thereby upheld an agreement that allowed for "judicial review of legal error." However, the court agreed with Hall Street that the doctrine of manifest disregard of the law presumed a rule against review of an award based on alleged legal error, even though the court left the door open for parties to designate manifest disregard of the law as a stand-alone ground for vacatur in their arbitration agreements, but with a caution, in the words of Hall Street, that manifest disregard should not be the "camel's nose" under the arbitration tent.

Manifest Reluctance

Since the "golden year" of manifest disregard in 1998, federal and state courts have analyzed petitions to vacate for manifest disregard with great caution, scrambling to articulate other grounds for vacatur where the facts are egregious but do not quite meet the lofty standard to prove manifest disregard which the courts themselves have set. A few interesting examples under federal and state law are worth further discussion.

Federal Law

As noted above, Todd Shipyards involved an arbitration claim for breach of contract for repair and refit of a cruise ship. The contract stated that the claimant's presentations were attached -- although they were not -- so the panel had to resort to extrinsic evidence to decide the case. Ultimately, the panel held that respondent had breached the contract in several ways. The 9th Circuit confirmed the award on appeal, holding that an arbitration award would not be set aside under Section 10 unless the award was wholly irrational or exhibited a manifest disregard of the law. Todd Shipyards thus raised the intriguing point of whether a showing that an award was "completely irrational" -- independent of manifest disregard -- would be a legitimate ground for vacatur under FAA Section 10.

Kyocera Corp. v. Prudential Bache Trade Services, Inc. (9th Cir. 2003) suggested the same interesting alternative. Kyocera involved a breach of contract claim for failure to pay for a computer disk drive. The arbitration clause provided for vacatur "for error of fact or law." Following Hall Street, the 9th Circuit held that the parties could not create their own standard for review in conflict with the limited FAA review provisions. Taking Hall Street's holding that manifest disregard was subsumed under the arbitrator's "exceeding their power," the court said in dicta that "arbitrators exceed their powers ... where the award is 'completely irrational' ... or exhibits a 'manifest disregard of the law,'" citing to Todd Shipyards.

A case of quasi-temporary insanity of the arbitrator occurred in Aspic Engineering v. ECC Centrum Contractor, Inc. (9th Cir 2019). The case involved an arbitration claim by a subcontractor to be paid for construction work done in Afghanistan. The subcontract required strict compliance with the Federal Acquisition Regulations in performing the work and providing supporting documents for any claim. Aspic indisputably had failed to follow the FARs, but the arbitrator forgave this on the grounds that, as an Afghan contractor, Aspic was using a less sophisticated accounting system, which the arbitrator held indicated that the parties had never had a meeting of the minds on the subcontract requirements. The court held that the award was irrational, in direct conflict with contract language, and not supported by past practices. In doing so, the court explained that an award could be considered irrational only if it fails to draw evidence from the agreement viewed "in light of the agreement's language and context, as well as other indications of the parties' intentions." It also held that an arbitrator cannot "disregard the operative contract to correct a perceived unfair resolution." On these grounds, the court upheld vacatur of the award without reaching the manifest disregard issue, likely because the arbitrator's conduct, as weird as it was, fell short of the manifest disregard standard.

Finally, in EHM Productions v. Starline Tours of Hollywood (9th Cir. 2021), the losing party appealed on the grounds that the panel had manifestly disregarded the law by granting an anti-SLAPP motion against the respondent. The district court confirmed that the arbitrator's action was in manifest disregard of the law, but the 9th Circuit disagreed. The court held that although the arbitrator had clearly misinterpreted the law by allowing and deciding the anti-SLAPP motion, the holding did not "exercise powers that the parties did not intend [the arbitrator] to possess" -- i.e., did not show that the arbitrator had exceeded his powers. Thus, as outlandish as it might have been, in the end, the arbitrators' mistake was thrown into the error of law bin, never to resurface.

California Law

In Richey v. AutoNation (Cal. App. 2015), an employer terminated an employee for violating his medical leave by working at a restaurant, which the employer claimed was prohibited under the Family Rights Act. The arbitrator made an award for the employer based on the "honest belief" doctrine, which was simply that the employer had honestly believed termination to be proper. The arbitration clause provided the arbitrator "shall ... make no decisions in violation of existing law." Based on the arbitration clause, the court held that the arbitrator had exceeded his power, but declined to apply the manifest disregard standard on the grounds that the arbitrator did not recognize the applicable law and ignored it. The arbitrator's mistaken reliance, in good faith, on the employer's "honest belief" saved him from the stigma of vacatur for manifest disregard.

Finally, in Ehredt v. Medieval Knight, Inc. (Cal. App. 2017), the court addressed an arbitration claim by a party who had been hired to perform at a dinner theater, alleging misappropriation of his likeness. The interesting arbitration clause called for vacatur under the California Arbitration Act where the arbitrator acted in manifest disregard of the law or exceeded his powers. The claimant latched onto the manifest disregard clause as a ground for appeal, even though the arbitrator had performed a careful analysis of the evidence in fashioning an award against the claimant. The court held that the claimant had not met the high bar for proving manifest disregard, because he could not articulate a "public policy" that was violated by the award (implying that if a public policy violation could have been identified, the award could have been vacated).

Takeaways

The above cases leave lawyers who delve into arbitrations with a few guidelines worth remembering.

If you are going to try to vacate an award on grounds of manifest disregard of the law, you'd better bring the goods.

Arbitrations typically have the following characteristics: (1) the arbitrators are careful to not reveal, before or during the hearing, favoritism toward one party over another; (2) although arbitrators will commonly ask some questions in the hearing about a party's opposition to a relevant, established legal principle, they seldom will make a pronouncement of whether that principle governs the outcome of the dispute; and (3) the arbitration award will typically perform some analysis of all of the evidence, pro and con, but could still misinterpret or even disregard a governing legal principle.

With cases like this, it is tough for a court to find that an arbitrator knew of a governing legal principle but intentionally ignored or refused to apply it, and that the law ignored was well-defined, explicit and clearly applicable. This task is made even more formidable by the fact that manifest disregard must be proven by the record, not by the result. The far easier explanation of cases that claim manifest disregard is that the arbitrator either lacked the candlepower to figure out the governing principle, failed to make an analysis thorough enough to reveal the governing principle, or was just too lazy to try. In truth, how does one establish that an arbitrator has gone into an arbitration intent on disregarding a governing, well-defined, legal principle in order to issue an award which is clearly defective?

Simply put, manifest disregard of law is Code Red in the world of arbitration. So, although you may believe with every fiber of your being -- forever -- that your arbitrator has manifestly disregarded the law, you must find evidence in the record to meet each element of the manifest disregard standard, and in the typical arbitration scenario, that task may prove beastly difficult. See, e.g., EHM Productions and Richey.

Take advantage of court decisions that have avoided manifest disregard petitions by finding alternative grounds to vacate an award.

The Hall Street court cautioned that manifest disregard was not to be treated as the "camel's nose" under the arbitration tent, by which it obviously meant that manifest disregard of law must not create an opening for the parties to pursue appeals of awards based solely on egregious errors of law by the arbitrator.

However, as the above cases (merely examples) show, the courts' reluctance to attribute diabolical intentions to an arbitrator, especially in cases where it is clear that an egregious error of law has been made, have sometimes given birth to other grounds for vacatur -- not expressly articulated in federal or state arbitration statutes, but explained by courts as embellishments of the arbitrator exceeding his powers.

Thus, cases such as Todd Shipyards and Kyocera could support a petition for vacatur based on the arbitrator exceeding his powers by showing that the award is "completely irrational" since it "fails to draw evidence from the agreement viewed "in light of the agreement's language and context, as well as other indications of the parties' intentions." Similarly, cases such as Aspic and EHM could support a petition for vacatur on grounds that the arbitrator has disregarded a relevant contract provision. And cases such as Ehredt could support a vacatur petition based on the arbitrator issuing an award that defies a relevant public policy. The beauty of these alternatives in egregious cases is that they avoid your having to prove that the arbitrator has acted in bad faith -- a basic element of a manifest disregard of law petition. Honest mistakes will not insulate arbitrators from these "alternative" grounds for vacatur.

Manifest disregard of the law is -- one can persuasively argue -- a nuclear option for blowing up an arbitration award. It not only vaporizes the award in every sense, but in the process stigmatizes the arbitrator as someone who has little if any regard for arbitration rules and processes. Courts certainly can be excused for their natural reluctance to dial in the code and press the red button when asked to do so. But by holding back, the courts have sometimes bestowed gifts -- alternative grounds for vacatur under the "exceeding of powers" umbrella. Of course, you are already a brilliant lawyer, but recognizing the above could extend your brilliance to arbitration vacatur petitions. The arbitration gods have your back. 

#1150

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