Accountability and Fraud in Arbitration Proceedings

52 Los Angeles Lawyer December 2004

Michael R. Brown is a trial attorney and partner with Los Angeles-based Kabateck Brown Kellner LLP. He argued on behalf of the successful appellant in O’Flaherty v. Belgum.

THE CHECKS AND BALANCES of our judicial system are the reason for its success for more than 225 years. Unfortunately, the voluntary, widespread use of arbitration to resolve disputes—a process without sufficient and proper safeguards—threatens the foundation of this time-honored system.

Arbitration administrators now dictate how disputes are decided. These lucrative businesses have been empowered to bypass the rules of law followed by courts for more than two centuries.

The most disturbing result of this “anything goes” system is that arbitration decisions face practically no scrutiny. There is very little accountability regarding the appropriateness of an arbitrator’s award. In fact, arbitrators have more power than judges. Judges’ decisions can be appealed, improper behavior can be subject to judicial review, and judges can be voted out of office. With arbitrators, if there is any review of their conduct, it is only on extremely limited and narrow grounds. Decisions are binding regardless of whether arbitrators misapply or fail to follow the law or make procedural rulings that defy logic. In addition, disputants are required to pay the arbitration administrator and the arbitrator even if a party is successful in overturning an arbitration award due to an arbitrator’s misconduct or fraud.

How, then, can parties in a dispute feel confident that a truly neutral third party will hear their case and render a fair decision? One way is for the parties to review the arbitrator’s background for possible conflicts and eliminate arbitrators who do not meet specific criteria for impartiality. Still, even with this potential safeguard, arbitrators and their administrators have found loopholes to avoid accountability. More often than not, they decide what background information should be disclosed. Although Code of Civil Procedure Section 1281.9 sets forth disclosure requirements, it allows arbitrators to pick and choose what information they find necessary to disclose.

All of us in the legal profession know that, historically, trial courts provide a rubber stamp for arbitrators’ awards. Unfortunately, parties often learn about facts that would have influenced their selection of an arbitrator during or even after the arbitration. The losing party must then go through the arduous task of attempting to vacate the arbitration award. In rare cases, such as Azteca Construction, Inc. v. ADR Consulting, Inc., arbitration awards are overturned due to arbitrator misconduct.1

In Azteca, the appellate court acknowledged the importance of establishing the neutrality of an arbitrator: “Finally, the neutrality of the arbitrator is of such crucial importance that the legislature cannot have intended that its regulation be delegable to the unfettered discretion of a private business.” The court stated that arbitrators failing to disclose information that could have an impact on their selection constitutes fraud. But instead of sanctioning the arbitration administrator or the arbitrator for fraud, the court’s only remedy for the losing party was to force the winning party back to the arbitration table. Neither party caused the arbitration decision to be vacated, yet the parties must arbitrate the case again at their own cost. Amazingly, the arbitrator and arbitration administrators were allowed to keep their fees.

In O’Flaherty v. Belgum,2 an American Arbitration Association arbitrator in a law partnership dispute felt it unnecessary to reveal that he had previously sued his former partners after being let go, asserting the same partnership breaches that were alleged by a terminated partner in the O’Flaherty arbitration. Not surprisingly, the arbitrator ruled in favor of the terminated partner. News of the arbitrator’s previous law firm experiences surfaced after the arbitration decision was made. Eventually, the California Court of Appeal overturned a $7 million judgment confirming the arbitration award. The court vacated the award because of other arbitrator misconduct. The decision not to disclose prejudicial information prior to the arbitration is the subject of a current lawsuit against the arbitrator and the AAA. Meanwhile, the original partnership dispute must be reheard before another arbitrator—all at the parties’ expense.

Why are the courts not holding arbitrators and arbitration administrators accountable for their actions? Why must the parties to an arbitration bear the financial burden to fix the arbitrator’s wrong? Shouldn’t there be some liability for an arbitrator’s breach of contract?

The overburdened court system is relying too heavily on arbitration to lighten its caseload. Courts must realize that, with regard to prearbitration background reviews, an arbitrator is like any other contract worker. Before arbitrators are hired, they are, for all intents and purposes, soliciting business. Thus, they should be required to comply with state arbitration rules and disclose everything that might affect the hiring decision. This is the least that arbitrators should do in order for disputing parties to have a fair chance for an impartial arbitration. Anything less is fraud and should not be protected by our court system. 

1 Azteca Constr., Inc. v. ADR Consulting, Inc., 121 Cal. App. 4th 1156 (2004); see also International Alliance of Theatrical Stage Employees & Moving Picture Mach. Operators of the United States v. Laughon, 118 Cal. App. 4th 1380 (2004).
2 O’Flaherty v. Belgum, 115 Cal. App. 4th 1044 (2004).