Archive for November, 2011

Choice of Law Governing Arbitrability: A US Court Faces a Perennial Conundrum

Wednesday, November 30th, 2011

The question of what law is to be applied to determine the existence, validity, or scope of a purported agreement to arbitrate between parties from different nations (and subsidiarily, how the answer might depend on whether the question is presented to a court or an arbitral tribunal) has long attracted considerable attention in the scholarly literature of international arbitration. But American doctrine on the subject is hard to find, there being rather few judicial decisions addressing the question in a systematic way.  So a decision on this question from a US Circuit Court of Appeals (Cape Flattery Ltd. v. Titan Maritime, LLC, 647 F.3d 914 (9th Cir. 2011)) presents a rare chance to take the measure of US law, and to assess its conformity with or divergence from doctrine and commentary elsewhere.

In Cape Flattery, the contract was between a shipowner and a salvage company, for the salvage of a vessel that had run aground on a Hawaiian coral reef. The contract provided for arbitration of disputes “arising under” the contract in London, in accordance with the English Arbitration Act and “English law and practice.” (The phrase “arising under” has generally been viewed in US law as a narrow designation for arbitration of only those disputes that involve the interpretation and performance of the contract itself, and not other disputes more or less derivative of rather than strictly within the contract).  

During the salvage operation, oil spilled from the vessel. The shipowner became liable for cleanup of the spill under US environmental regulatory law, and brought suit in federal court in Hawaii against the salvage company, for contribution and indemnity in regard to the cleanup costs imposed upon it by federal law.  The salvage company moved to compel arbitration, urged that the agreement required arbitrability to be decided according to English arbitrability law, and argued that the dispute was arbitrable under such law.

The Ninth Circuit, affirming the district court’s decision, held that US federal arbitrability law not English law applied to decide whether the indemnity dispute was within the scope of the agreement to arbitrate. The Court first considered whether under the FAA and the “federal substantive law of arbitrability” that (per Supreme Court decisions) it has created, a US court is even at liberty to enforce an agreement of the parties, if one exists, to have arbitrability decided under law other than the FAA.  Finding no clear indication in the Supreme Court’s arbitrability decisions that parties may not elect to have arbitrability decided under non-federal law, the Court concluded that, given the contractual nature of arbitration, logic dictates that they may so agree. Turning then to how a court should decide whether such an agreement has indeed been made, the Court identified two potential approaches: (i) apply state contract law and simply determine if the parties have objectively manifested a common intention to have non-federal arbitrability law apply, or (ii) for reasons relating to federal arbitration law and policy, require  particularly clear evidence in the contractual language that the parties had chosen non-federal arbitrability law.

The Court decided upon the latter approach, reasoning by analogy to the Supreme Court’s First Options decision that choice of arbitrability law is an arcane matter that contracting parties will rarely consider specifically, so that silence or ambiguity about this choice of law, if construed in favor of non-federal law, might to often result in the application of law the parties did not expect would apply. Therefore, the Court held, there should be “clear and unmistakable evidence” that the parties wished to have non-federal arbitrability law apply.

I question whether this the best methodology, and suggest that it invokes a presumption in favor of the lex fori that has no persuasive theoretical foundation when the forum and the seat of arbitration are not one and the same. Once the Ninth Circuit had concluded that application of US federal arbitrability law based on the FAA was not mandatory by command of the law itself, it was faced with a choice of law issue in a contract case. Had the Court looked within the FAA for guidance — to the New York Convention — it would have seen that Article V(1)(a) provides that enforcement of an award may be refused if the arbitration agreement was not valid under the law to which the parties had subjected the arbitration agreement, or failing any indication thereon, under the law of the place where the award was made. And while the issue in the Cape Flattery case was not validity of the agreement to arbitration but rather the scope of arbitrable issues, the choice of law rule embodied in Article V(1)(a) of the Convention would seem to be a good indication of the choice of law rule that would apply to a post-award challenge to arbitrability based on the scope of the clause under Article V(1)(c). No persuasive reason appears for deciding arbitrability differently on a motion to compel arbitration than in an award confirmation setting. Further, Article V(1)(a) essentially embodies a choice of law rule common to many jurisdictions and arguably having the status of a general principle of international law: that the law applicable to a contract dispute is the law agreed by the parties, and if not agreed then the law of the pace having the closest connection to the dispute.

Broad consensus is said to exist in the world of international arbitration that the place with the closest connection to a dispute over an arbitration contract is the place where that contract — viewed separately from the main contract in which it is placed — is to be performed: at the seat of the arbitration.  (With apologies for oversimplification, see, e.g., K.P. Berger, Re-Examining the Arbitration Agreement: Applicable Law – Consensus or Confusion?, from A.J. van den Berg (ed.), International Arbitration 2006: Back to Basics? ICCA Congress Series 2006 Montreal 13 (Kluwer 2007) pp. 301-334). And while it is written, notably in French commentary, that the seat may be a relatively weak link chosen by the parties for reasons of convenience or chosen by an institution in the absence of party choice, in the Cape Flattery case the parties had subjected disputes under the salvage contract to a venue and legal system thousands of miles away from the Oahu coral reef where the contracted services to salvage the grounded vessel were to be performed. Morever, the parties’ arbitration clause stated expressly that the arbitral proceedings should be governed by the English Arbitration Act, whose Section 30 broadly enshrines the compétence-compétence principle. The Ninth Circuit could have endorsed the widely-held US law view that an agreement to arbitrate under rules that enshrine compétence-compétence is clear evidence of an agreement to arbitrate arbitrability (e.g. Republic of Ecuador v. Chevron Corp., 638 F.3d 384 (2d Cir. 2011); Qualcomm Inc. v. Nokia Corp., 466 F.3d 1366 (Fed. Cir. 2006); Terminix Int’l Co. v. Palmer Ranch Ltd., 432 F.3d 1327 (11th Cir. 2005); Contec Corp. v. Remote Solution Co., 398 F.2d 205 (2d Cir. 2005)), and could have compelled arbitration on this basis without breaking any new jurisprudential ground.

Perhaps the Cape Flattery case is not predictive of how other US courts would address, in the setting of a motion to compel arbitration, the question of what law applies to determine arbitrability. But in the international arbitration context, the path to a correct solution is clearly identifiable in US law. If the parties have agreed to arbitrate under arbitration rules or a national arbitration law that enshrines compétence-compétence, there is an agreement to arbitrate arbitrabillity and the court should compel arbitration and thereby leave the choice of arbitrability law issue to the arbitrator.    If there is no such agreement to arbitrate arbitrability, the arbitrability law choice should be guided by Article V(1)(a) of the New York Convention, there being no sound reason why pre-arbitral and post-award determinations of arbitrability of the same dispute should be governed by different law (and there usually should be no reason to distinguish, for choice of law purposes, between a dispute over validity of the clause and a dispute over scope). These solutions admittedly leave a small gap: cases where the parties have neither agreed on arbitrability law nor selected an arbitral seat. In such cases choice of law principles should suffice to reach the correct solution, and the facts leading one of the parties to bring suit in a US court should often justify the conclusion under choice of law principles that US federal arbitrability law controls.



“Clerical Error” and the Functus Officio Doctrine: Common Law Limits on Amendments to Awards?

Tuesday, November 22nd, 2011

As arbitrators we think quite a lot about “functus officio,” this being a quaint latin expression for our status on the morning after delivery of a final award. But we do not often enough think about or discuss where this disempowered status fits within the scheme of arbitration law — a question to which the answer would advance analytical clarity when courts must resolve controversies over an arbitrator’s actions in modifying a purportedly final award. 

US courts often refer to “functus officio” as a “doctrine,” as did the US Fifth Circuit Court of Appeals in a decision earlier this month. (Martel v. Ensco Offshore Co., 2011 WL 5299612 (5th Cir. Nov. 2, 2011)).  In American law, the “doctrine” was recognized as part of the common law well before the enactment of the Federal Arbitration Act. The earliest reference I have found in federal case law dates to 1833, when a federal circuit court in Virginia, invoking the doctrine by analogy to invalidate a warrant for sums due to the US Treasury based on an government auditor’s purported modification of a final statement of account, observed: “I take it to be sound principle, that when a special tribunal is created, with limited power, and a particular jurisdiction, that whenever the power given is once executed, the jurisdiction is exhausted and at an end — that the person thus invested with power is, in the language of the law, functus officio.” (Ex Parte Randolph, 20 F. Cas. 242, 251 (C.C. Va. 1833)).

With the enactment of the Federal Arbitration Act in 1925, the grounds for vacatur of an award to which the act applies became codified, but only into such broad general categories as “exceed[ing]… powers” and “evident partiality.” Obviously an arbitrator exceeds her powers, and her modified or corrected award should be vacated, if she has functioned when she is functus. So the scope of the statutory standard (FAA Section 10(a)(3) will depend in turn on the scope of the common law doctrine, or perhaps on whatever agreement the parties have made – directly or by adoption of arbitration rules — to permit the tribunal to change an award.

Thus if the parties by direct agreement or adoption of institutional rules have agreed (as they typically do) that arbitrators may only correct a final award within a certain period of time, upon the application of a party, and to correct a clerical or typographical or computational error, then it is the agreement of the parties rather than the functus officio doctrine that mainly determines whether the arbitrator has exceeded her powers.

But suppose the parties disagree over whether a particular change made to a final award, and incorporated in an amended final award, is “clerical” (as opposed to, say, judgmental, resulting for a misinterpretation or overlooking of evidence by the tribunal). The party that is relatively more satisfied with the original final award views the change as prohibited reconsideration of the merits. How should a Court decide? One approach, taken last year by the US Second Circuit Court of Appeals, is to say that the parties bargained for the arbitrator’s judgment about whether the correction is a permitted one or not, and so that question is no more judicially reviewable than any other decision of the tribunal on a matter of arbitral procedure. (T. Co. Metals LLC v. Dempsey Pipe & Supply, Inc., 592 F.3d 329 (2d Cir. 2010)). But the difficulty with that approach, and a source of criticism of the T. Co.  decision (Jennifer Kirby, T. Co. Metals v. Dempsey Pipe & Supply: Are There Really No Limits on What an Arbitrator Can Do in Correcting An Award?,  (2010) 27 J. Int’l Arb. at pp. 519-528), is that interpretation of the parties’ agreement on correction of awards is a decision concerning the jurisdiction of the tribunal (revival, for a limited purpose, of a grant of jurisdiction that has otherwise expired). Courts generally regard questions of arbitral jurisdiction as matters for judicial determination without deference, unless the parties have clearly and unmistakably agreed that arbitrators should resolve those issues with the same finality as they resolve the merits. And when the jurisdiction issue is whether the parties agreed that an arbitral tribunal rather than a court should decide the merits of a dispute, courts have said that an agreement to arbitrate under rules that confer power on arbitrators to decide jurisdictional issue is itself the necessary clear and unmistakable evidence. Let’s call this, for discussion purposes, the “Competence-Competence Deference Rule.”

But does the same rationale suffice to commit to the discretion of arbitrators, subject only to very deferential review for total irrationality or manifest disregard, a decision about the revival of their jurisdiction, as opposed to its existence in the first place? There are policy reasons underlying the Compétence-Compétence Deference Rule: to discourage resort to the courts when an arbitration is in its formative stages, and to encourage voluntary compliance with awards on the merits by giving broad issue-preclusive effect to arbitral determinations of their own power to act.

Once the arbitrators have issued a purportedly final award, however, different considerations come into play. One is the concern that underlies the functus officio doctrine — that the arbitral determination should not be altered based on external influences that might be brought to bear upon the arbitrator once she has made a decision and the decision has become known.  (The feminine pronoun is used here , as it often is in Arbitration Commentaries, to recognize that many of our finest arbitrators are and increasingly should be women, and not to suggest that they are more prone to error). The arbitrator who fears that the administering institution perceives an error in her award, and that this perception of being error-prone might cause her not to be appointed by that institution in future cases, might be inclined to stretch the notion of “clerical error” in the interest of preserving her reputation for complete accuracy. More generally, some arbitrators will value their reputations for precision more than the finality of their decisions, and take liberties to correct, as “clerical,” errors that were more or less judgmental. Another consideration is the parties’ probable assumption that arbitral rules do not provide for reconsideration by the arbitrator, any that any substantive nullification of, or change in, the final arbitral award can only be a made by a court, and only for the very limited reasons that law allows. Thus it seems unlikely that parties who have agreed to arbitrate under (e.g.) AAA, ICC, or UNCITRAL Rules assumed that the (very similar) provisions of those Rules concerning correction of clerical error in an award meant that in substance that “the arbitrator shall in her sole discretion decide whether an error is clerical in nature.” The evidence that this is what the parties intended, to qualify as clear and unmistakable, should approximate the inclusion of this language expressly.  To impute the intent of these words to the language of standard Compétence-Compétence rules, seems to impose upon those rules a meaning that their drafters probably did not consider.

And if it is up to courts to decide, without deference, whether an error corrected by an arbitrator was “clerical” or not, then it makes sense that courts would look to the functus officio doctrine as an interpretive guide, if one is needed, to fix the outer  boundaries of what constitutes a correctible clerical error.

Historically, the functus officio doctrine provided that an error, to be correctible by the arbitrator, had to be one that appeared on the face of the award. That principle was later modified to permit correction of some errors that become evident upon comparing the award to a document in the record the contents of which the arbitrator was required to take notice — such as a stipulation of fact or an admission against interest of a party. The Fifth Circuit in its recent case follows the latter approach, and thus permitted correction of a mis-stated damages quantum ($3,000,000 not $300,000).

It seems quite sensible that arbitral rules allowing clerical errors to be corrected, and the scope of permitted correction under the common law, should be approximately the same. The functus officio doctrine had a long history before the promulgation of those rules.  While drafting history of those rules is sparse, it is a fair assumption that they were intended to codify the functus officio doctrine in plain and relatively unmalleable language. Courts would do a service to the arbitral system by rendering decisions that promote this symmetry, and that constrain arbitral tribunals that are tempted to use the “clerical error” rules to address errors of a different order or to grant reconsideration.




Judicial Power to Enjoin Arbitration: Clear Analysis from the Second Circuit

Monday, November 14th, 2011

Arbitration Commentaries has written on more than one occasion on the question, not consistently decided in the US courts, of whether the Federal Arbitration Act (“FAA”) provides authority for a federal court to enjoin a pending arbitration. In a significant recent decision, the US Second Circuit Court of Appeals affirmed a District Court’s order enjoining an arbitration, but did so based on analysis that clearly stops short of saying that an action to enjoin arbitration is an implied cause of action conferred by the FAA. (In Re American Express Financial Advisors Securities Litigation, 2011 WL 5222784 (2d Cir. Nov. 3, 2011)).

There is certainly clear logic to the position that if arbitration is a matter of contract, the federal courts should have authority to enforce the arbitration agreement where it exists, is valid, and covers the dispute, and also the power to prevent an illegitimate arbitration where the agreement does not exist, or is invalid, or does not cover the dispute.   

But if an implied cause of action to enjoin arbitration is to be found in the FAA – that is to say if the FAA is to be the source of judicial power to enjoin arbitration — courts should be fully satisfied that Congress’s intent to encourage arbitration as an alternative to litigation will be advanced by recognizing such a right of action. But it is arguably true that in the situations in which injunctive relief to stay a pending arbitration would be most often sought, there might indeed be more interference with arbitration than advancement of it, if such a cause of action based on the FAA were recognized.

Consider first a domestic arbitration between two New York companies, commenced through the New York office of the AAA.  Respondent claims the arbitration clause was revoked when the parties signed another contract with no arbitration clause. Respondent brings an action in New York state court to enjoin the arbitration, and obtains an ex parte temporary restraining order, which the Respondent then serves on the AAA together with a letter asking the AAA to suspend the arbitrator selection process. (The TRO is sought on the basis of the FAA, not New York arbitration law. New York’s CPLR Article 7503 authorizes an action to stay arbitration but only on the ground that no valid arbitration agreement was made, or that the cause of action is time-barred.  Thus in our hypothesis an injunction under CPLR 7503 is not available).  The AAA elects to respect the Court’s order. The Movant asks the New York judge for discovery in advance of an evidentiary hearing. The request is granted; the hearing is held; and seven weeks after the hearing the Court issues its decision denying the injunction motion. Four months have elapsed from the filing of the Request for Arbitration.

Consider next how an arbitrability contest in an international dispute might play out, if the party disputing arbitrability could rely on the FAA as a basis to ask a court to enjoin a newly-filed arbitration. Korean company X files an ICC arbitration against New York company Y. The arbitration clause relied upon provides for ICC arbitration in New York. Respondent contends that it is a successor to the signatory of the contract and that it never agreed to arbitration. Respondent files an action to enjoin arbitration in the Southern District of New York and obtains a TRO. The ICC declines to halt the case; Respondent files its Answer and names an arbitrator; the ICC appoints a Chair; and the Respondent in the first procedural conference asks the Tribunal to stay the case until the New York court decides arbitrability. The Tribunal reluctantly agrees. Respondent moves in the Southern District to have claimant held in contempt for violating the the TRO. After discovery and an evidentiary hearing, the Court dissolves the TRO, denies the injunction, and denies the contempt motion. The arbitration is delayed four months.

In both situations, Respondent had two other options to contest arbitrability. Respondent could have raised a jurisdiction objection in the arbitral proceedings, at the case-intake stage with the administering institution and thereafter with the tribunal. The applicable rules in each case provided that the tribunal has power to decide issues of its own jurisdiction. Respondent, in addition or alternatively, could have filed a state or federal court complaint seeking relief on the merits of the dispute, forcing Claimant to respond with a motion to compel arbitration.  Both of these options promote the arbitration system effectively while permitting an arbitrability challenge to be resolved well before the arbitration reaches the merits. If the injunction option based only on the FAA is unavailable, Respondents will often be reluctant to invest the effort required to present a merits lawsuit to a court. Respondents’ objectives often will be to scuttle the Claimant’s arbitration claim, not to force the merits dispute into a judicial forum. On balance, then, by declining to find an implied power to enjoin arbitration in the FAA itself, courts would promote the doctrine of compétence-compétence, because tactical considerations will motivate Respondents more often than not to lodge jurisdictional objections within the arbitral process.

The in terrorem effect on Claimants of temporary restraining orders provides another reason to disfavor the position that the FAA authorizes an order enjoining arbitration. A Claimant with a good faith belief that it has an arbitrable claim should not be forced to stand down from its claim temporarily or risk a citation for civil contempt. Faced with that calculus, even Claimants who are likely to succeed on arbitrability will usually err on the side of caution to avoid contempt of court. Permitting injunction orders under the FAA therefore would tend, on balance, to inject significant delay into proceedings that ultimately will be resolved in arbitration. The quantum of properly avoided arbitral proceedings, on the other hand, is not likely to be much greater under a regime of judicial injunctions, rather than a regime where Respondent must either pursue the objection in the arbitration or file a merits lawsuit.


This brings us to a discussion of what the Second Circuit Court of Appeals decided, and did not decide, in the American Express case earlier this month.  The procedural posture was far from the prototype scenarios described above. The District Court had overseen a class action by investors in Amex-affiliated managed funds, who claimed fraudulent and negligent investment advice and breach of fiduciary duty. The Court had approved a class action settlement. An Illinois couple, class members, had heeded bad advice, from their local Amex-affiliated investment manager, to ignore the notice of class action settlement they received, refrain from signing an opt-out as was their right, and instead file a FINRA arbitration. The District Court granted Amex’s request for a declaration that all of the Illinois couple’s FINRA arbitration claims were covered by the class action settlement and had been released. And to implement that determination, the District Court granted Amex’s request to enjoin the further prosecution of the arbitration.

The Second Circuit affirmed as to all but one of the claims asserted in the FINRA arbitration. Only its analysis upholding the Distirct Court’s injunction against prosecuting the other claims in the FINRA arbitration concerns us in this Commentary.

The Court framed the question to be whether the FAA “(or any other authority)” furnished the District Court with “remedial power” to enjoin the arbitration. The Court cited a number of earlier Second Circuit and Southern District of New  York decisions that “suggested” the FAA authorizes such relief. But the Court did not adopt the holdings of those cases as the governing rule in this case; it is important to distinguish between the Court’s approval of the outcomes in those cases, and its ultimate adoption of a narrow non-FAA rationale for sustaining the district court’s injunction in this case. The case most centrally relied upon was a First Circuit case from the 1980s, authored by then-Circuit Judge Stephen Breyer, which held that an order enjoining arbitration where the matter is not arbitrable is a “concomitant” power with the power to compel arbitration and is not inconsistent with the FAA — but that case did not hold that the FAA was the source of the Court’s power to issue the injunction.  Instead, the Court held that there was adequate authority under Massachusetts law to enjoin the arbitration, and that such law was not in conflict with the FAA.

In the Amex case, the Second Circuit did not find it necessary to rely upon the FAA alone as a source of judicial remedial power to enjoin the pending arbitration FINRA arbitration between the Illinois couple and American Express. It found such power by implication from the combination of the FAA, the FINRA Arbitration Rules, and, critically, the class action settlement agreement to which the Illinois couple were parties, an agreement which provided expressly for the district court’s retention of jurisdiction to enforce the settlement agreement. In a footnote, the Court proceeded to discuss a provision of the federal judicial code known as the All-Writs Act (28 U.S.C. § 1651), noting that several courts have had occasion to rely upon that Act as the basis for judicial power to enjoin a pending arbitration where such an injunction is necessary to protect the jurisdiction of the federal court. The Court indicated that in some cases reliance upon the All-Writs Act to enjoin arbitration would be appropriate, but such reliance was not necessary in this case because of the class action settlement agreement.


The Second Circuit’s decision prudently respects the border between what the FAA permits (by not prohibiting), and what the FAA mandates. It may be hoped that other courts will follow the Second Circuit’s lead and develop a consistent legal approach to judicial power to enjoin arbitration. That power is not found in the FAA, although there is consistency between the contractual basis for enforcement and non-enforcement of arbitration agreements under the FAA and the power to enjoin arbitration that may be found in other sources. Those sources include an agreement of the parties, state arbitration law that may expressly permit a cause of action for a stay of arbitration (such as New York’s CPLR 7503), and potentially the All-Writs Act. A well-developed understanding in the courts and the bar that these are the proper sources of power to enjoin arbitration will serve to discourage undesirable judicial intervention in newly-filed arbitrations and the disruptive use of injunction applications by Respondents who seek tactical advantage through collateral litigation.