The United States Court of Appeals for the Second Circuit recently ruled that an arbitrator acted with “evident partiality” and vacated the arbitration award. Applied Indus. Mat. Corp. v. Ovalar Makine Ticaret VE Sanaayi, A. S., 492 F.3d 132, 134 (2d Cir. July 9, 2007).

An American company and a Turkish company entered into a joint venture agreement to distribute petroleum coke in Turkey. The agreement provided that any dispute between the parties would be settled by a three-member arbitration panel in New York. When a dispute arose between the parties, each party selected their own arbitrator, and then the two parties selected the third, presiding arbitrator. The presiding arbitrator was the chairman, president, and CEO of an unrelated company, which was “a multi-billion dollar company with 50 offices in 30 countries.”

During the arbitration proceedings, the presiding arbitrator learned that a division of his company was negotiating a contract with the parent company of the American company. These negotiations concerned the transportation of petroleum coke in the U.S.

The presiding arbitrator disclosed the existence of these negotiations to the arbitrating parties. He informed the parties that he did not plan to become involved in the negotiations and that he did not believe that his ability to decide their dispute was impaired. The arbitration panel later determined that the Turkish company was liable to the American company in a 2-1 decision with the presiding arbitrator casting the deciding vote.

After the award, the Turkish company conducted an investigation, and it found that presiding arbitrator’s company had an undisclosed commercial relationship with the parent company of the American company. This relationship existed prior to the presiding arbitrator’s disclosure about his company’s negotiations with the parent of the American company, and this existing relationship had generated $275,000 in revenues.

The Turkish company requested that the presiding arbitrator withdraw. The presiding arbitrator refused to withdraw, explaining that he was unaware of this commercial relationship. The presiding arbitrator informed the parties that a “Chinese wall” had been erected at his company to prevent him from learning about possible agreements between his company and the parent of the American company. He revealed that, when he had learned initially about negotiations between his company and the parent of the American company, he instructed his company that he did not want to receive any information about his company’s activities with the parent of the American company.

The Second Circuit vacated the arbitration award, concluding that the presiding arbitrator demonstrated “evident partiality” under the Federal Arbitration Act. The Second Circuit set forth the following rule regarding an arbitrator’s duty to investigate a potential conflict: “[W]here an arbitrator has reason to believe that a nontrivial conflict might exist, he must (1) investigate the conflict . . . or (2) disclose his reasons for believing there might be a conflict and his intention not to investigate.”

According to the Second Circuit, if the presiding arbitrator in this case had conducted an investigation upon learning about the negotiations between his company and the parent of the American company, he would have discovered that a relationship between the two companies “already existed and had generated $275,000 in revenue, not a trivial amount.” “[G]iven the circumstances, a reasonable party would have to conclude that evident partiality existed.”