What’s Left Of The 'Manifest Disregard' Standard Of Review Of Arbitration Awards: All Of It If You’re In The Second Circuit; Who Knows If You’re In The Third Circuit


Business & Commercial Litigation Alert

July 2009

For decades, federal district courts across the country have been vacating arbitration awards upon a showing that the award reflected a “manifest disregard” of applicable law. Last term, the United States Supreme Court decided Hall Street Assocs. LLC v. Mattel, Inc., 128 S. Ct. 1396 (2008), which was perceived by many as sounding the death knell for the “manifest disregard” standard of review. Since Hall Street, however, a number of district and circuit courts have continued to find life in the “manifest disregard” standard, including the Courts of Appeals for the Sixth Circuit and the Second Circuit. Indeed, in Stolt-Nielsen SA v. Animalfeeds Int’l Corp., 548 F.3d 85 (2d Cir. 2008), the Second Circuit recast its view of the legal basis of the “manifest disregard” standard to survive Hall Street’s reasoning and then considered whether the standard required vacation of the arbitration award before it. As for the Third Circuit, it has not yet considered the meaning of Hall Street. In the absence of a clear instruction, federal district courts within the Third Circuit have taken different approaches to the current viability of the “manifest disregard” standard. These cases are all noteworthy for those defending or challenging an arbitration award in federal court.

Hall Street and the “Manifest Disregard” Standard of Review
Section 10 of the Federal Arbitration Act (FAA) lists four specific grounds for vacating an arbitration award, all of which generally concern the process by which the arbitration was conducted. In particular, it permits a district court to vacate an arbitration award if: (1) the award “was procured by corruption, fraud, or undue means”; (2) “there was evident partiality or corruption in the arbitrators”; (3) the arbitrators engaged in misbehavior by refusing to consider material evidence, refusing without cause to postpone a hearing, or other acts that prejudiced one of the litigants; or (4) the arbitrators “exceeded their powers, or so imperfectly executed them that a mutual, final, and definite award upon the subject matter submitted was not made.” 9 U.S.C. § 10.

In addition to those four statutory grounds for vacatur, for more than five decades before Hall Street, a court could vacate an award based on a “manifest disregard of the law.” Although federal courts described the “manifest disregard” standard in various ways, at its core, the standard required proof that the arbitrator was aware of a controlling and well-defined legal principle but did not follow it when rendering the award. See, e.g., Duferco Int’l Steel Trading v. T. Klaveness Shipping A/S, 333 F. 3d 383, 389 (2d Cir. 2003) (“A party seeking vacatur bears the burden of proving that the arbitrators were fully aware of the existence of a clearly defined governing legal principle, but refused to apply it, in effect, ignoring it.”). Some circuits, like the Seventh Circuit, found the jurisprudential basis for the doctrine in the language of Section 10 of the FAA. See, e.g., Wise v. Wachovia Sec., LLC, 450 F.3d 265, 268 (7th Cir. 2006) (“we have defined ‘manifest disregard of the law’ so narrowly that it fits comfortably under the first clause of the fourth statutory ground”). Virtually all of the other circuit courts, however, recognized the doctrine as an extra-statutory, common-law ground for vacatur. See e.g., Three S Delaware, Inc. v. Dataquick Info. Sys., Inc., 492 F.3d 520, 527 (4th Cir. 2007); B.L. Harbert Int’l, LLC v. Hercules Steel Co., 441 F.3d 905, 910 (11th Cir. 2006); Black Box Corp. v. Markham, 127 Fed. Appx. 22, 25 (3d Cir. 2005); Dominion Video Satellite, Inc. v. Echostar Satellite L.L.C., 430 F.3d 1269, 1275 (10th Cir. 2005); Brabham v. A.G. Edwards & Sons Inc., 376 F.3d 377, 381 (5th Cir. 2004); Duferco, 333 F. 3d 383, 389 (2d Cir. 2003); Hoffman v. Cargill Inc., 236 F.3d 458, 461 (8th Cir. 2001); Merrill Lynch, Pierce, Fenner & Smith, Inc. v. Jaros, 70 F.3d 418, 421 (6th Cir. 1995); Advest, Inc. v. McCarthy, 914 F.2d 6, 8-9 (1st Cir. 1990). Thus, most of the circuits that recognized the “manifest disregard” standard of review before Hall Street did so on the tacit assumption that the four grounds for vacatur listed in the FAA are not exclusive.

The United States Supreme Court’s Hall Street opinion rejected that assumption. In Hall Street, the Court decided whether the parties to an arbitration agreement could agree to expand the grounds for vacatur beyond the four listed in Section 10 of the FAA. The Hall Street Court held unequivocally that such an agreement could not be enforced by a district court acting under the FAA because Section 10 provides the “exclusive grounds for expedited vacatur.” 128 S. Ct. at 1403.

In reaching this conclusion, the Court addressed its earlier opinion in Wilko v. Swan, 346 U.S. 427, 74 S. Ct. 182 (1953), overruled by Rodriguez de Quijas v. Shearson/American Express, Inc., 490 U.S. 477, 109 S. Ct. 1917 (1989), which was seen by many federal courts as approving the non-statutory “manifest disregard” standard. In Wilko, the Court considered whether an arbitration provision in a margin agreement requiring arbitration of securities fraud claims was void as a result of Section 14 of the Securities Act of 1933. In holding that such a provision was void (a holding which has since been overruled), the Wilko Court observed that an arbitrator’s erroneous interpretation of the Securities Act would not be subject to judicial review. But the Court also suggested that an arbitrator’s “manifest disregard” of the Securities Act—rather than an erroneous interpretation of the Act—could be subject to judicial review:

While it may be true, as the Court of Appeals thought, that a failure of the arbitrators to decide in accordance with the provisions of the Securities Act would “constitute grounds for vacating the award pursuant to section 10 of the Federal Arbitration Act,” that failure would need to be made clearly to appear. In unrestricted submissions, such as the present margin agreements envisage, the interpretations of the law by the arbitrators in contrast to manifest disregard are not subject, in the federal courts, to judicial review for error in interpretation.

Wilko, 346 U.S. at 436, 74 S. Ct. at 187 (emphasis supplied).

The petitioner in Hall Street argued that this language from Wilko showed that the Court had already acknowledged that the Section 10 grounds are not exclusive and that parties to an arbitration should therefore be permitted to agree to additional grounds for vacating an award. The Hall Street Court rejected that argument and distanced itself from the foregoing language in Wilko in a few ways. First, the Court noted that the “manifest disregard” standard was not at issue in Wilko, which involved a since-overturned interpretation of a provision in the Securities Act of 1933 limiting the arbitrability of securities-fraud claims. Second, the Court argued that due to the “vagueness of Wilko’s phrasing,” it was unclear exactly what the Court was saying about the “manifest disregard” standard of review:

Maybe the term “manifest disregard” was meant to name a new ground for review, but maybe it merely referred to the § 10 grounds collectively, rather than adding to them, or, as some courts have thought, “manifest disregard” may have been shorthand for § 10(a)(3) or § 10(a)(4), the subsections authorizing vacatur when the arbitrators were “guilty of misconduct” or “exceeded their powers.”

Hall Street, 128 S. Ct. at 1404. Ultimately, the Court stated that it saw “no reason to accord [Wilko] the significance that [petitioner] urges.” Id. This statement—along with the Court’s unequivocal and often-stated holding that Section 10 of the FAA provides the “exclusive” grounds for vacating an arbitration award, id. at 1400, 1403, 1406, 1408—seems to be a clear statement that the “manifest disregard” standard is no longer viable.

The Aftermath of Hall Street
Despite the seeming clarity of Hall Street, federal courts have disagreed concerning the continued viability of the “manifest disregard” standard. The First Circuit, relying on Hall Street, has renounced the doctrine (albeit in dicta). Ramos-Santiago v. United Parcel Serv., 524 F.3d 120, 124 n.3 (1st Cir. 2008) (“[W]e acknowledge the Supreme Court’s recent holding in [Hall Street] that manifest disregard of the law is not a valid ground for vacating or modifying an arbitral award in cases brought under the [FAA].”). District courts in Massachusetts and Minnesota have reached the same conclusion. See, e.g., ALS & Assocs., Inc. v. AGM Marine Constructors, Inc., 557 F. Supp. 2d 180, 185 (D. Mass. 2008) (applying Ramos-Santiago); Prime Therapeutics LLC v. Omnicare, Inc., 555 F. Supp. 2d 993, 999 (D. Minn. 2008).

Some district courts disagree internally over the meaning of Hall Street. For example, in The Householder Group v. Caughran, 576 F. Supp. 2d 796, 800 (E.D. Tex. 2008), the court rejected the “manifest disregard” standard, but in Halliburton Energy Servs., Inc. v. N.L. Indus., 553 F. Supp. 2d 733, 753 (S.D. Tex. 2008), the court found the standard to have survived Hall Street. The Halliburton court read Hall Street as “not expressly decid[ing] whether the manifest disregard standard remains a separate basis for federal court review of arbitration decisions in at least some circumstances.” Id. Thus, “out of an abundance of caution” the Halliburton court applied it, curiously stating that it was applying the doctrine “as both a summary of some of the statutory grounds and as an additional ground for vacatur.” Id.

Similarly unsettled is the law in the District of New Jersey. The court in Andorra Servs., Inc. v. M/T EOS, No. 06-373, 2008 U.S. Dist. LEXIS 94579 (D.N.J. Nov. 19, 2008) refused to consider a manifest disregard of law or any other vacatur grounds not expressly contained in Section 10. In New Jersey Regional Council of Carpenters v. Maximum Construction, LLC, No. 08-2942, 2008 U.S. Dist. LEXIS 98482 (D.N.J. Dec. 5, 2008), the court applied the “manifest disregard” standard of review without acknowledging the existence of Hall Street. Another court recognized the questions raised by Hall Street but cautiously avoided resolving them by finding that the award under review should be confirmed even if the “manifest disregard” standard were applied. O’Leary v. Salomon Smith Barney, Inc., No. 05-6016, 2008 U.S. Dist. LEXIS 98483 (D.N.J. Dec. 5, 2008). See also Aamco Transmission, Inc. v. Sally, No. 05-151, 2008 U.S. Dist. LEXIS 102502 at *7 n.1 (E.D. Pa. Dec. 18, 2008).

The state of the law is clearer in the Sixth and Second Circuits. The Sixth Circuit has applied the “manifest disregard” standard of review notwithstanding Hall Street. Coffee Beanery, Ltd., v. WW, L.L.C., No. 07-1830, 2008 U.S. App. LEXIS 23645 (6th Cir. Nov. 14, 2008). The Sixth Circuit read Hall Street’s discussion of Wilko and the “manifest disregard” standard as not “foreclos[ing] a federal court’s review for an arbitrator’s manifest disregard of the law.” Id. at *10.  Thus, because the doctrine had been “universally recognized” prior to Hall Street, the Sixth Circuit found that it would be “imprudent” to stop applying the doctrine and continues to do. Id. at *11.

The Second Circuit in Stolt-Nielsen SA v. Animalfeeds Int’l Corp., 548 F.3d 85 (2d Cir. 2008), took a different (and more controversial) tact to holding that the “manifest disregard” standard survives Hall Street. Although the Stolt-Nielsen court openly acknowledged that Hall Street was “undeniably inconsistent” with earlier Second Circuit opinions that characterized “the ‘manifest disregard’ standard as a ground for vacatur entirely separate from those enumerated in the FAA,” id. at 94, the court, relying on the Seventh Circuit’s decision in Wise, supra, recast the very nature of the doctrine as one that springs from the FAA’s express statutory vacatur grounds rather than a judicially-created complement to those grounds. Id. at 94-95. With the doctrine’s underpinnings reconceived, the Second Circuit found the “manifest disregard” standard to have survived Hall Street. Id. District courts in the Second Circuit have taken the same approach. Mastec N. Am., Inc. v. MSE Power Sys., Inc., No. 08-168, 2008 U.S. Dist. LEXIS 52205 at *9 (N.D.N.Y. July 8, 2008) (“[T]his Court will view ‘manifest disregard of law’ as judicial interpretation of the Section 10 requirements, rather than as a separate standard of review, and will resort to existing case law to determine its contours.”).

The Stolt-Nielsen court’s view that the “manifest disregard” standard can be derived from Section 10 is questionable. None of the four statutory factors refers specifically to error in the legal bases of the arbitrator’s decision. Section 10(a)(4), which concerns instances when arbitrators have “exceeded their powers,” could arguably serve as justification for vacating an award when an arbitrator intentionally ignores controlling law. But arbitrators would exceed their powers in this way only when the parties have expressly agreed on the rules of decision and thus restricted the arbitrator’s power to consider other rules. Indeed, the Seventh Circuit has severely limited the scope of the “manifest disregard” standard to instances where the arbitrator orders the parties to violate the law or does not apply the legal rules of decision to which the parties expressly agreed. Wise, 450 F.3d at 269 (doctrine confined “to cases in which arbitrators direct parties to violate the law”); George Watts & Son, Inc. v. Tiffany & Co., 248 F.3d 577, 581 (7th Cir. 2001) (“the ‘manifest disregard’ principle is limited to two possibilities: an arbitral order requiring the parties to violate the law … and an arbitral order that does not adhere to the legal principles specified by contract, and hence unenforceable under §10(a)(4)”). Only the Seventh Circuit’s extremely narrow construction of the “manifest disregard” standard allows it to fall within the scope of Section 10(a)(4). Wise, 450 F.3d at 268-69.

Rather than construe the standard more narrowly, the Second Circuit continues to apply the doctrine as it was developed before Hall Street, thus permitting a reviewing court to infer an arbitrator’s knowledge of the law and his intent to disregard it. Stolt-Nielsen, 548 F.3d at 92. Vacatur may be appropriate, therefore, when the reviewing court finds “an error that is so obvious that it would be instantly perceived as such by the average person qualified to serve as an arbitrator.” Id. at 93. This “average arbitrator” standard seems sufficiently open-ended to allow unsuccessful litigants to tie up an adverse arbitration award for what may be years before a final judgment is issued. Such a “cumbersome and time-consuming judicial review process” was exactly what the Hall Street Court sought to avoid. Hall Street, 128 S. Ct. at 1405.

The “manifest disregard” standard does not survive Hall Street. That said, the only way to justify its continued existence is through a narrow construction that allows it to fall within the scope of Section 10 and that is consistent therefore with the “national policy favoring arbitration with just the limited review needed to maintain arbitration’s essential virtue of resolving disputes straightaway.” Id. The Seventh Circuit’s version of the standard arguably fits this bill. The Second Circuit’s plainly does not, but until the United States Supreme Court says otherwise, Stolt-Nielsen is the law in federal district courts in New York, Connecticut, and Vermont. As for federal law in New Jersey, until the Third Circuit pronounces otherwise, the meaning of Hall Street is a litigable issue that must be considered in proceedings to confirm an award.