Occasionally, arbitration clauses include a provision for resolving deadlocks over arbitrator selection (e.g., a party's failure to name its party-arbitrator or to select an umpire) by referring those issues to a state trial court for resolution. However, as a recent California federal district court decision demonstrates, the enforceability of such state court referrals will depend heavily on the specific wording of the clause, which will likely be construed narrowly if, for example, an arbitrator selection issue arises that was not squarely addressed such as party-arbitrator disqualification.
In this noteworthy case, an insurer and its insured entered into a Payment Agreement for Insurance and Risk Management Services. When a dispute arose, the insured demanded arbitration pursuant to the agreement and named its party-arbitrator. The insurer subsequently named its party-arbitrator but also challenged the qualifications of the insured's arbitrator to serve. The arbitration clause provided that if either party refused or neglected to appoint an arbitrator within 30 days after written notice from the other party requesting it to do so, or if the two arbitrators failed to agree on a third arbitrator within 30 days of their appointment, "either party may make an application to a Justice of the Supreme Court of the State of New York, County of New York and the Court will appoint the additional arbitrator or arbitrators."
With regard to the arbitrators' qualifications, the clause provided that they "must be executive officers or former executive officers of property or casualty insurance or reinsurance companies or insurance brokerage companies, or risk management officials in an industry similar to [the insured's]," domiciled in the U.S. and "not under the control of either party to this Agreement." The insurer's complaint about the insured's party-arbitrator concerned an alleged violation of the "not under the control of either party" provision. He had been a former employee of the insurer's parent company; had issued insurance policies for the insurer while so employed; had recently been appointed as a party-arbitrator on behalf of the insurer; and had served as a litigation consultant/expert witness directly for the insurer and its parent company in at least four other cases in recent time. This prior relationship, argued the insurer, gave the insured's arbitrator insider, or "playbook information," about the insurer sufficient trigger the "not under the control of either party" restriction.
Recognizing that the arbitration clause did not specifically address arbitrator disqualification disputes, the insurer proposed that the parties adopt several supplemental arbitration procedures, including a method for the disqualification of party-arbitrators, which were ultimately declined by the insured. When the insurer subsequently refused to proceed to arbitration unless the insured selected a new arbitrator and stated that it intended to petition the Supreme Court of New York to settle its disqualification dispute, the insured filed a motion to compel arbitration before the California federal district court.
Because the arbitration clause provided that the arbitration would be governed by the Federal Arbitration Act ("FAA"), the obvious starting point for the district court's analysis was § 4, which provides in pertinent part: "A party aggrieved by the alleged failure, neglect, or refusal of another to arbitrate under a written agreement for arbitration may petition any United States district court . . . for an order directing that such arbitration proceed in the manner provided for in such agreement." The insurer argued that the insured's party-arbitrator should be disqualified and that the arbitration clause required this dispute to be adjudicated by the Supreme Court of New York. Because he was allegedly unqualified and the insured refused to appoint someone else, this situation was "akin" to the insured not nominating anyone and, therefore, amounted to a failure to comply with the arbitration clause. The insured countered that the provision granting venue to the Supreme Court of New York was limited to two very specific circumstances: (1) when a party refuses or neglects to appoint its arbitrator at all, and (2) when the two arbitrators fail to agree on a third. Consequently, disputes over a party-arbitrator's qualifications were for the federal court to decide pursuant to the FAA, not the state court. Furthermore, nothing in the parties' arbitration clause or federal law permitted the disqualification of a party-arbitrator prior to the entry of an arbitration award, and in any case, the insured's party-arbitrator was qualified to serve.
Agreeing with the insured, the federal district court found that the arbitration clause gave the Supreme Court of New York "limited" jurisdiction, which did not include deciding disputes over arbitrator qualifications and that a federal forum was the proper place to decide the insured's motion to compel. It also determined that neither the parties' agreement nor well-established precedent allowed one party to disqualify the other's party-arbitrator prior to the conclusion of the arbitration and issuance of an award. While acknowledging that the arbitration clause precluded the selection of a party-arbitrator under the control of either party, the court interpreted this to mean "currently" under the control of either party. Granting the insured's motion to compel arbitration, the federal court concluded that the parties had complied with the arbitration clause requirements for the selection of arbitrators and that the insured's party-arbitrator was qualified to serve because he had no current relationship with the insurer.
This case suggests two important caveats for arbitration clause drafters. First, federal courts are likely to interpret arbitration clause referrals to state courts for the resolution of arbitrator selection disputes very narrowly. Second, if the parties want a state court to resolve arbitrator disqualification disputes during the selection phase of the proceeding, the clause had better expressly address this contingency because, absent extraordinary circumstances sufficient to invoke the court's equitable powers (e.g., overt misconduct), a federal court is unlikely to stray from the well-established rule that arbitrator disqualification disputes must await a motion to vacate after an award is rendered.
Service Partners, LLC v. American Home Assurance Co., Case No. CV-11-01858-CAS(Ex), 2011 U.S. Dist. LEXIS 67207 (C.D. Cal. June 20, 2011).
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