Hall Street Assocs. v. Mattel, Inc.: Supreme Court Denies Enforcement of Agreement to Expand the Grounds for Vacatur Under the Federal Arbitration Act

On March 25, 2008, the United States Supreme Court announced its judgment in Hall Street Assocs. v. Mattel, Inc.,[1] a case involving the exclusivity of the grounds for vacating arbitral awards under the Federal Arbitration Act (FAA). As explained below, the decision holds that the disputing parties may not agree to expand the grounds for vacatur beyond those listed in 9 U.S.C. § 10. However, in rendering its judgment, the Supreme Court left open a number of questions, including the capacity of judges to formulate non-statutory grounds for vacatur, the application of the Court’s reasoning to judicial review governed by other sources of law, and the application of the Court’s holding to international commercial arbitrations. More broadly, the decision may signal a departure from one trend and the consolidation of another. For example, if applied to international commercial arbitrations, the decision would be hard to reconcile with recent judicial practice that favors party autonomy over doctrine and statutes designed to restrict the exercise of party autonomy. By contrast, the decision reinforces the Supreme Court’s tendency to avoid broad pronouncements on commercial matters that would require legislative fine-tuning.

FACTUAL AND PROCEDURAL BACKGROUND

Hall Street Associates (Hall Street) agreed to lease a manufacturing site in Oregon to Mattel, Inc. (Mattel). As part of the agreement, Mattel undertook to indemnify Hall Street for costs resulting from violations of environmental laws by Mattel or its predecessors, who had used the site since 1951. During 1998, tests disclosed that the property’s well water contained elevated levels of pollutants caused by the manufacturing discharges of Mattel’s predecessors. After entering into a consent decree with the Oregon Department of Environmental Quality, which provided for a cleanup of the site, Mattel notified Hall Street of its intent to terminate the lease in 2001. Contesting its right to terminate the lease and seeking a declaration that Mattel had to provide indemnification for the costs of environmental remediation, Hall Street commenced a lawsuit against Mattel.[2]

After Mattel prevailed on the termination issue in a bench trial, the parties decided to submit the indemnification issue to arbitration. Approved by the court and entered as an order, the arbitration agreement provided that:

[t]he United States District Court for the District of Oregon may enter judgment upon any award, either by confirming the award or by vacating, modifying or correcting the award. The Court shall vacate, modify or correct any award: (i) where the arbitrator’s findings of facts are not supported by substantial evidence, or (ii) where the arbitrator’s conclusions of law are erroneous.[3]

In due course, the arbitrator rendered an award for Mattel. While recognizing that Mattel had undertaken to indemnify Hall Street for violations of “environmental” laws, the arbitrator described Oregon’s Drinking Water Quality Act (DWQA) as a statute that protects “human health.” Relying on the distinction between environmental and health laws, the arbitrator concluded that violations of the DWQA entailed no obligation to provide indemnification.[4]

As contemplated by the arbitration agreement, Hall Street petitioned the district court to vacate the award because the arbitrator had committed legal error by failing to regard the DWQA as an environmental law. Agreeing with this proposition, the district court vacated the award and remitted the case to the arbitrator, who then ruled for Hall Street. Thereafter, Mattel unsuccessfully sought modification of the second award by the district court. On appeal to the United States Court of Appeals for the Ninth Circuit, however, Mattel prevailed on the theory that 9 U.S.C. § 10 provides the exclusive grounds for vacatur under the FAA, thus rendering unenforceable the agreement to permit vacatur for errors of law. Following remand and a second appeal to the Ninth Circuit, the Supreme Court granted certiorari to address a split of authority regarding the validity of contracts to permit vacatur for reasons not enumerated in the FAA. [5]

THE COURT’S DECISION

In its submissions to the Supreme Court, Hall Street advanced two main arguments to justify a non-exclusive approach to the grounds for vacatur under the FAA: (1) courts had accepted the existence of non-statutory grounds for vacatur since Wilko v. Swan,[6] in which the Supreme Court mentioned the possibility of vacatur for awards rendered in “manifest disregard of the law”; and (2) the FAA reflects a federal policy that favors party autonomy and, thus, enforcement of arbitration agreements according to their terms.[7]

Writing for a six-member majority, Justice Souter first recognized that Wilko v. Swan “includes some language arguably favoring Hall Street’s position,” and that “some Circuits” have treated “manifest disregard” as a judicially recognized “ground for vacatur on top of those listed in §10” of the FAA.[8] However, assuming that judges could establish narrow, non-statutory grounds for vacatur, that did not support Hall Street’s submission that disputing parties may agree to plenary review for legal error under the FAA. To the contrary, the relevant passages of Wilko expressly rejected the possibility of “general review” for legal error. Furthermore, while not reaching a definitive conclusion, Justice Souter suggested that the Supreme Court never intended “manifest disregard” to enlarge the statutory grounds for vacating awards. Thus, the Court might have used “manifest disregard” to describe the collective sense of all grounds listed in §10. Alternatively, it might have used the concept as shorthand for a single provision, such as §10(a)(4), which authorizes vacatur when arbitrators have exceeded their powers. In any event, Justice Souter saw no reason to treat Wilko as a precedent supporting enforcement of agreements to expand the grounds for vacatur under the FAA.[9]

Turning to the question of party autonomy, Justice Souter recognized that the FAA generally favors enforcement of arbitration agreements according to the terms selected by the parties.[10] Thus, the statute allows them to determine the qualifications of the arbitrators and the method of their selection, the scope of arbitrable issues, the procedural rules, and the substantive law. Despite the general policy favoring party autonomy, however, Justice Souter identified certain “textual features” that rendered the FAA incompatible with enforcement of contracts to permit vacatur on non-statutory grounds.[11] According to Justice Souter, such agreements cut “against the grain” of 9 U.S.C. § 9, which provides that district courts “must” confirm awards “unless . . . vacated, modified, or corrected as prescribed in sections 10 and 11 of this title.”[12] Comparing this to the FAA’s permissive language on appointment of arbitrators,[13] Justice Souter concluded that §§ 9 and 10 do not sound “remotely” like default provisions subject to alteration by the parties.[14] Furthermore, assuming that § 10 left room for supplementation by agreement, Justice Souter implied that the additional grounds should conform to the overall tenor of § 10. Because that provision contemplates vacatur only for various forms of “outrageous conduct,” interpretive principles would not condone expansion to encompass review for errors of law.[15]

Instead of “fighting the text” of §§ 9 and 10, Justice Souter deemed it more sensible to read those provisions as establishing a national policy that favors the limited review needed to ensure speed and finality in arbitration.[16] Any other interpretation would transform arbitration into the prelude for a long and expensive judicial process.

DISSENTING OPINIONS

In a dissenting opinion joined by Justice Kennedy, Justice Stevens observed that parties could agree to judicial review of awards for legal error before adoption of the FAA in 1925.[17] Because Congress adopted the FAA to promote enforcement of arbitration agreements according to their terms, Justice Stevens believed that the statute enhanced the presumption favoring enforcement of fairly negotiated agreements regarding judicial review for legal error.[18] To the extent that § 10 had a mandatory character, it simply established a minimum list of the grounds that always support vacatur, but did not restrict parties from consenting to additional grounds.[19] Finally, even if the case raised debatable issues, Justice Stevens would have resolved them by applying the principle of “freedom,” or party autonomy, which he described as a “presumption of overriding importance.”[20] In a brief dissenting opinion, Justice Breyer asserted that the Court should enforce the parties’ agreement on judicial review because it did not violate the FAA, any other statute, or any relevant public policy.[21]

SIGNIFICANCE OF THE DECISION

Although Hall Street involves a domestic transaction and the application of domestic law, the Supreme Court’s judgment may have ramifications for international commercial arbitrations venued in the United States. As a general principle, national courts at the place of arbitration have the power to vacate awards according to the standards for vacatur in that jurisdiction.[22] When they exercise that power, vacatur then becomes a ground for refusing enforcement of awards in third states under the New York and Panama Conventions.[23] Under these circumstances, limited and well defined standards for vacatur tend to enhance a state’s desirability as an arbitral forum, and to promote the international portability of awards. By contrast, broad and poorly defined standards for vacatur tend to have the opposite effect. As a result, most modern arbitration laws either set forth the exclusive grounds for vacatur,[24] or permit deviations only within well defined limits.[25] To the extent that they permit deviations, they allow parties to restrict (but not to enlarge) the statutory grounds for vacatur.[26] By treating the FAA’s grounds for vacatur as exclusive and by foreclosing the possibility of open-ended expansion of those standards, the Supreme Court’s decision arguably keeps the FAA within the mainstream and, thus, preserves the United States’ attraction as a major center for arbitration.

OPEN QUESTIONS

Despite the clear holding that parties may not contract to enlarge the FAA’s grounds for vacatur, Hall Street leaves at least four open questions. First, while strongly indicating that the Supreme Court did not intend its endorsement of vacatur for “manifest disregard of the law” to enlarge the grounds for judicial review under the FAA,[27] Hall Street does not take a clear position on the power of courts to articulate limited, non-statutory grounds for vacatur if they intend to do so.

Second, as stated in dicta and noted by observers, Hall Street takes no position on the validity of contracts to expand the grounds for vacatur under state arbitration statutes.[28] However, because many of those statutes contain the same “textual features” as the FAA,[29] the question arises why the application of state arbitration statutes should lead to any result other than the one adopted in Hall Street.

Third, as noted by a federal judge while speaking at a recent conference, Hall Street does not address the validity of agreements to expand the grounds for refusal to enforce awards under treaties such as the New York and Panama Conventions. Although technically correct, those treaties also contain the same “textual features” as the FAA.[30] Therefore, the question also arises why their application would lead to any result other than the one adopted in Hall Street. Furthermore, while it is understandable why disputing parties might agree to vacatur for legal error by the courts at the place of arbitration, it is questionable why parties might agree to plenary judicial review of the merits in every country where the prevailing party seeks enforcement of the award.

Fourth, more tantalizing and less often discussed, Hall Street does not indicate whether the same result would occur under the FAA for disputes involving international commercial arbitration. Despite the categorical tone of the majority opinion and the absence of any dicta reserving the question for international commercial disputes, the Supreme Court’s jurisprudence often displays a willingness to enforce forum selection agreements and arbitration agreements relating to international transactions, even assuming that the Court would not enforce identical clauses in domestic transactions.[31] Thus, the application of Hall Street to international commercial arbitration may depend on the Court’s inclination to maintain the traditional distinction between domestic and international transactions. This may represent the most promising theory on which to seek a different result for disputes involving international commercial arbitration.

BROADER TRENDS

As stated above, it may be too early to predict with confidence whether the Supreme Court and lower courts will apply Hall Street to disputes involving international commercial arbitration. If they do, however, that would represent a significant departure from recent cases in which courts have elevated party autonomy over judicially created restrictions on arbitrability[32] and even statutory anti-waiver provisions enacted by the United States Congress.[33] While future developments are uncertain, Hall Street could signal a retreat from the high water mark of party autonomy with respect to the design of procedures for international commercial disputes.

In the end, however, one aspect of Hall Street seems perfectly clear: the Supreme Court has affirmed its reluctance to embrace simplistic decisions that could become blunt instruments for the regulation of commerce, which often requires fine-tuning. Previously, the Court declined to apply Title VII of the Civil Rights Act to employment relationships outside the United States, in part because the Court foresaw that the extraterritorial application of U.S. law would require fine-tuning better left to Congress.[34] Likewise, in Hall Street, the Court expressed concern that enforcement of contracts to expand the grounds for vacatur would transform arbitration into the mere prelude for a long and expensive judicial process with multiple levels of appeal. Of course, judicial review of awards for legal error need not entail such horrible consequences. For example, the English Arbitration Act of 1996 avoids far-reaching and protracted litigation by permitting appeals of the merits, but only by agreement of the parties or by leave of court, only on questions of law (not fact), only on questions of English (not foreign) law, and with further appeal granted only by leave of court (and only if the case involves a question of general importance).[35] In other words, one may construct a workable system of appeals for arbitral awards, but it requires comprehensive fine-tuning better achieved by statute than by ad hoc judicial pronouncements.

About the Author

Charles H. Brower, II , a former member of ASIL’s Executive Council, is currently a Tillar House Sabbatical Fellow, American Society of International Law; Visiting Fellow, Lauterpacht Research Centre for International Law, Cambridge University; Scholar-in-Residence, American University, Washington College of Law; Croft Associate Professor of International Law and Jessie D. Puckett, Jr. Lecturer-in-Law, University of Mississippi School of Law.

Footnotes